Con dence Barometer. Economic outlook. Con dence rises to two-year high. Deal volume expected to increase. Growth strategies

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1 Automotive Capital Con dence Barometer ey.com/automotive 8th edition Continued focus on growth Economic outlook Con dence rises to two-year high M&A Deal volume expected to increase Access to capital Credit availability expected to remain strong Growth strategies Investment intent tops Capital Agenda

2 Continued focus on growth Growth mandates driven by continued increases in con dence and credit availability will spur M&A activity within the automotive industry. Key ndings 61% 38% 70% 54% 88% 61% consider growth their primary focus plan to pursue an acquisition expect deal volumes to improve have a greater focus on investing in emerging markets view credit availability as stable or improving see the global economy improving, pushing economic con dence to a two-year high

3 Jim Carter Americas Automotive Transaction Advisory Services Leader Economic optimism and con dence are fueling a growth agenda in automotive. A note from Jim Carter, Americas Automotive Transaction Advisory Services Leader Our eighth Capital Con dence Barometer in the automotive industry shows rising levels of con dence in economic growth, employment growth, credit availability and corporate earnings all leading indicators that support automotive executives positive sentiment toward the global economy. This sentiment is re ected throughout the Barometer, with companies indicating an increased willingness to carry out growth agendas. Sixty-one percent of respondents are focused on growth, the highest level in two years. When combined with increased con dence in the number, quality and likelihood of closing transactions compared with 12 months ago, this growth focus has translated into increased M&A appetite within the sector. For the 38% of executives pursuing acquisitions, also at a two-year high, the emphasis will be placed on the emerging markets of India, Brazil and China as the top investment destinations. Respondents have also shifted their organic growth focus over the last six months, from new products and changing the mix of existing products and introducing services to investing in new geographies or markets and exploiting existing technologies. This realignment of organic growth strategies is con rmation that many companies spent the last several years optimizing their product portfolios and are now focused on growing their core business. Those companies that responded to the weak economic climate by focusing internally are now in position to capitalize on growth as economic conditions improve. A note from Pip McCrostie, EY Global Vice Chair, Transaction Advisory Services Con dence in the global economy is at a two-year high. Companies have weathered a prolonged period of uncertainty, during which time they strengthened their balance sheets and optimized their capital structures. Having warehoused cash for a number of years, and with ready access to credit, leading corporates are in a strong nancial position to do deals they now have more con dence to pull the trigger. This does not mean we will see a return to boom-time dealmaking. That was unsustainable but so is the M&A recession we have experienced since For many companies, operational ef ciencies and a focus on cost-cutting can no longer meet growth mandates. As a result, the signs are that M&A will once again be a preferred route to achieve growth. 1

4 Economic outlook Con dence in an improving global economy is at its highest point in two years. Sixty-one percent of automotive executives believe the global economy is improving, with another 27% indicating the economy is stable. Driving this con dence are improvements in economic conditions in mature economies and stabilization in emerging markets. The outlook for Europe has brightened in the last six months. Higher levels of employment, rising gross domestic product (GDP) and more access to capital provide evidence that the region s economic downturn is subsiding. In the United States, corporate earnings, employment growth and credit availability continue to rise. Economic con dence reaches two-year high Con dence levels have risen dramatically over the last 12 months a clear indication the economy is improving at an increasing rate. This con dence resonates from stable underlying economic fundamentals, particularly in mature markets: growing GDP, credit availability and increased job creation. Growth expectations continue to rise Eighty- ve percent of automotive executives anticipate global growth. The majority of respondents expect growth of between 1% and 3%, although 20% of executives expect the global economy to grow in excess of 3% (up from six months ago). 2

5 Con dence continues to rise Improving What is your perspective on the state of the global economy today? Stable Declining 12% 8% 22% 20% 27% 40% 52% 58% 61% 61% of automotive respondents view the economy as improving compared with 22% a year ago By how much do you think/expect the global economy to grow in the next 12 months? More than 5% 3%-5% 1%-3% 1% 2% 12% 19% 65% 69% 85% of automotive respondents expect global growth Zero growth Negative growth 0% 3% 15% 3

6 Economic outlook, cont d. Improved fundamentals support Commitment to job creation underscores plans for investment Automotive respondents commitment to job creation is at its highest level in two years and highlights that companies need to hire as they prepare to capture growth. Automotive, along with oil and gas and technology, are the sectors where the most jobs will be created and are also among the sectors most likely to pursue acquisitions. Political instability outweighs economic concerns for automotive executives While global political instability is believed to pose the greatest near-term risk, it is unlikely to derail the fundamental push for growth. Similar to the Eurozone or US crises, the recent unrest in Syria and Egypt pose challenges; however, these challenges are not expected to be detrimental to the recovery of the global economy over the long term. Con dence spans leading economic indicators Companies are broadly positive across economic indicators. Automotive executives indicate increased con dence in economic growth, employment growth, corporate earnings and credit availability. Investors remain somewhat cautious in the short term, with only 21% of respondents having con dence in short-term market stability. 4

7 increased dealmaking With regard to employment, which of the following does your organization expect to do in the next 12 months? 6% 35% 59% 9% 46% 45% 10% 68% 22% Reduce workforce numbers Keep current workforce size Create jobs/hire talent 59% of executives expect to create jobs/hire talent, the highest level ever in our automotive edition of the Barometer What do you believe to be the greatest risk to your business over the next 6 12 months? Increased global political instability Continuation of the Eurozone crisis Failure to manage the withdrawal of US quantitative easing Continued slow growth in China 24% 29% 33% 33% of automotive executives perceive global political instability to be the greatest growth barrier to their business Please indicate your level of con dence in the following at the global level Economic growth Employment growth Credit availability 26% 24% 32% 41% 46% 59% 59% of executives have con dence in global economic growth Corporate earnings Equity valuations/ Stock market outlook Short-term market stability 23% 27% 21% 21% 36% 33% 5

8 Access to capital credit availability drives momentum To advance their strategic imperatives, automotive companies will take advantage of a continued increase in credit availability. Over the last 12 months, automotive executives report their access to credit continues to improve, although this has only translated into a modest uptick in debt-to-capital ratios throughout the industry. This disciplined use of leverage ensures that companies are able to access the credit markets as they invest in both organic and inorganic growth initiatives. Credit availability supports growth The vast majority (88%) of automotive executives consider access to credit as stable or improving. Furthermore, the sentiment on declining credit availability dropped by nearly half compared to what it was 12 months ago. This con dence coupled with positive views on the global economy and sound economic fundamentals sets the stage for a robust, dealmaking environment. Companies carefully manage debt-to-capital ratios Following the Great Recession, automotive executives have become disciplined in their use of leverage. This discipline is expected to continue over the next 12 months with only 21% of respondents planning to increase their debt-to-capital ratios. Automotive companies with a well-managed capital structure will be able to opportunistically access credit markets as they undertake larger transactions to deliver growth. Planned use of more debt and equity may signal shift to larger deals The con dence to use more debt and equity to nance deals even if that shift is modest represents a move away from risk aversion and smaller, cash-based transactions. A willingness to use more leverage may also highlight increasing valuations and possibly larger deals to address growth mandates while also signaling a return to a more active M&A environment. 6

9 Credit markets continue to improve Please indicate your level of confidence in credit 88% availability at the global level 12% 47% 41% 23% 45% 32% Declining Stable Improving of automotive executives now consider credit availability as either stable or improving, the highest level in two years Less than 25% 25%-49.9% 50%-74.9% What is your company s current debt-to-capital ratio? 20% 18% 12% 34% 34% 30% 37% 41% 53% How do you expect your debt-tocapital ratio to change over the next 12 months? 31% 48% 21% 28% 47% 25% 33% 51% 16% Decrease Remain constant Increase 71% of executives have a debt-tocapital ratio less than 50% 75%-100% 9% 7% 5% What is the likely primary source of your company s deal financing in the next 12 months? 20% 36% 44% 22% 27% 51% 19% 44% 37% Equity Debt Cash 56% of executives say they will use debt and equity as their primary source of deal funding 7

10 Growth strategies investment intent tops Capital Agenda Growth is the primary focus for automotive companies: appetite for growth has increased to 61% from 43% last year. With strengthened balance sheets and largely optimized capital structures, automotive companies plan to continue the implementation of their growth agendas over the next 12 months. On the contrary, the focus of more than one quarter of respondents on cost reduction and operational ef ciency highlights the regional variances that exist within the industry. As production volumes return in Europe and growth returns in emerging markets, the focus is expected to shift further to growth throughout the industry as a whole. Focus on growth is at two-year high Growth is the primary focus for an increasing majority of automotive companies: 61% of automotive executives now say that their focus over the next 12 months is on growth, compared with 43% one year ago. Excess cash funds growth and pays down debt Fifty-two percent of automotive companies with excess cash to deploy over the next 12 months plan to focus on investing in growth, with the majority of growth investments placed in lower risk, organic opportunities (38%). The remaining companies are focused on returning cash to shareholders, with the majority doing so in the form of paying down debt (35%). This re ects better availability of capital and an expectation that deals can be nanced when needed. Organic growth strategies center on core products and existing markets 8 Automotive companies are largely focused on lower-risk growth strategies that include core products and existing markets. With non-core divestitures executed following the Great Recession, automotive executives are now continuing to grow their core products and focusing on what they know best. Companies that are looking for more accelerated growth, albeit with higher risk, are focused on investing in new geographies/markets or exploiting their technology to develop new markets and/or products. Companies also need to invest capital in capex and people resources as the industry is set for a substantial number of launches in 2014.

11 Automotive companies focus on growth Which statement best describes your organization s focus over the next 12 months? 1% 12% 3% 10% 2% 30% 23% 26% 32% 32% Survival Growth 61% 55% 43% 40% 61% of automotive respondents say their primary focus is on growth over the next 12 months If your company has excess cash to deploy, which of the following will be your company s focus over the next 12 months? Organic growth (e.g., investing in products, capex, talent retention, R&D) Inorganic growth (e.g., acquisitions, alliances and JVs) Invest in growth 15% 10% 38% 42% 39% Return to stakeholders Pay down debt Pay dividends Buy back stock 4% 9% 9% 5% 8% 24% 35% 34% 52% of companies with excess cash plan to invest in growth over the next 12 months What is the primary focus of your company s organic growth over the next 12 months? More rigorous focus on core products/ existing markets Lower risk 29% 40% Investing in new geographies/markets Exploiting technology to develop new markets/ products Increase R&D/ product introductions Higher risk 15% 6% 9% 7% 17% 40% of executives say their organic growth will focus on core products and existing markets New sales channels 18% 24% Changing mix of existing products and services 6% 15% 9

12 Growth strategies, cont d. Investment tops companies Which statement best describes your organization s focus over the next 12 months? Raising: A company s ability to raise capital is integral to achieving its growth imperatives and nancial well-being. And with credit increasingly available and more attractive, companies now indicate a desire to take on more leverage, which signals that larger dealmaking will be done. 21% 20% Raising Investing The Capital Agenda 5% Preserving Optimizing 6% Preserving: A company s ability to access liquidity, control costs and engage with key stakeholders is essential to preserving capital amid shifting market forces. Since most companies were forced to focus on preservation in order to survive, they are now able to concentrate on other areas of their Capital Agenda. 10

13 Capital Agendas Investing: Executives sentiment indicates an investment climate is imminent, and as required levels of growth and returns increase, companies will look to M&A. Improving economic fundamentals will also enable more deal-powered growth. 41% 40% 50% Boardroom discipline has strengthened companies Capital Agendas, enabling them to pursue growth strategies 31% 24% 34% Optimizing: Companies continue to employ a disciplined approach to capital optimization with an enhanced focus on governance and scal rigor. With capital structures largely optimized, executives today are primarily focused on re nancing to retire maturing debt and position themselves with a more exible capital structure. 11

14 Mergers & acquisitions more deals expected With core economic fundamentals in place, the vast majority of automotive executives expect deal volume to improve only 4% expect a decline. Con dence in the likelihood of closing deals, the quality of acquisition opportunities and the number of acquisition opportunities have all increased markedly over the last 12 months. This con dence, combined with a clear focus on gaining market share, both in existing and new markets through inorganic growth are clear indicators that a robust dealmaking environment is on the horizon. Global deal volumes expected to increase Seventy percent of automotive executives expect deal volumes to improve over the next 12 months. Deal volumes resonate from the alignment of core fundamentals: positive economic sentiment, enhanced credit availability, the imperative for growth and the expectation to create jobs. Growth in volume will also come from the returning stability of mature markets, which brings incremental growth in Brazil, Russia, India and China (BRICs) and new frontier economies. M&A expectations continue to rise in automotive driven by increased con dence in the number of opportunities, quality of opportunities and likelihood of deals closing With core fundamentals in place to support M&A, 38% of automotive executives expect their companies will pursue acquisitions in the next 12 months, double the pursuit sentiment from a year ago (19%). This improvement in the number of companies expecting to pursue acquisitions resonates with the notable increase in the last 12 months in the number and quality of acquisition opportunities, as well as signi cant improvement in the likelihood of deals closing. Acquisitions focused on gaining market share The vast majority of automotive executives planning to pursue acquisitions are focused on gaining market share, whether in new markets or existing markets. To a lesser extent, executives will leverage acquisitions to access new technologies or leverage distribution networks. A very small number (8%) of executives plan to utilize acquisitions to reduce costs and improve pro tability/margin, a signi cant decrease from 12 months ago and a clear signal that industry executives are focused on growth. 12

15 Deal volumes expected to increase What is your expectation for global M&A/deal volumes in the next 12 months? Improve Remain the same Decline 4% 26% 70% 70% of executives expect global deal volumes to improve 40% 30% What is your expectation to pursue an acquisition and your level of con dence in the following at the global level? 39% Expectation to pursue an acquisition 33% 38% 26% 20% 21% 19% 10% Apr-11 Oct-11 Apr-12 Likelihood of closing acquisitions Quality of acquisition opportunities Number of acquisition opportunities 36% 27% 27% 38% 30% 27% 46% 35% 57% 38% of automotive companies expect to pursue acquisitions this year, the highest level in two years What are the main drivers of your company s planned acquisition in your chosen market/country? Gain share in new markets (product or geography) Gain share in existing markets Access to technology/ intellectual property 8% 17% 44% 38% 44% 65% 60% 62% 65% of executives planning to pursue acquisitions are focused on gaining share in new markets Leverage distribution networks 13% 8% Reduce cost and improve 8% 23% 28% 13

16 Mergers & acquisitions, cont d. Top cross-border investment destinations for automotive Which are the top countries (outside your local market) in which your company is most likely to invest? Top investment destinations 4. United States 3. Brazil 5. South Africa 14

17 The interdependency between developed and emerging economies continues to increase The emerging markets are of continued and growing interest to dealmakers. 2. China 1. India 15

18 Mergers & acquisitions, cont d. Increased automotive dealmaking emerging markets Although acquisition capital will be allocated globally, emerging markets remain a priority for the automotive market While mature markets are a desirable investment, mostly due to the perceived safety and quality of their underlying opportunities, automotive suppliers continue to look to the higher-growth emerging markets for growth opportunities. Emerging markets interest grows Over the last 12 months, 54% of automotive executives indicate they have placed greater focus on investing in the BRIC (36%) and non-bric (18%) emerging markets as they search for new strategic opportunities. However, the mature markets continue to be an important investment destination as well. M&A in slowing-growth emerging markets requires more transaction rigor While certain emerging markets have experienced slowing growth, executives remain largely optimistic about the opportunities they present, provided greater rigor is applied to dealmaking. Unlike their mature counterparts, emerging markets continue to rapidly evolve and transaction risk must be managed. 16

19 likely to be driven by How do you expect to allocate acquisition capital in the next 12 months? % of capital allocated 75% 100% 8% 50% 74.9% 12% 25% 49.9% 43% Marked commitment Less than 25% 37% Emerging market BRIC 63% of executives expect to allocate 25% or more of their acquisition capital to the BRIC markets in the next 12 months How has your sentiment toward investing in emerging markets changed versus a year ago? Greater focus on emerging markets Stayed the same Less focus on emerging markets 8% 38% 54% 54% of executives have a greater focus on the emerging markets today versus 12 months ago Which statement best describes your approach to M&A in those emerging markets which are experiencing slowing growth? Optimistic about opportunities, have not changed approach to assessing deals in emerging markets Optimistic but will apply further rigor when assessing deal opportunities in emerging markets Less optimistic and reconsidering emerging markets strategy 9% 16% 23% 31% 45% 58% 58% of executives remain optimistic but will apply further rigor in the emerging markets Less optimistic and have already turned attention more toward developed markets opportunities 4% 5% Have discontinued emerging markets strategy for now 6% 3% 17

20 Mergers & acquisitions, cont d. Valuation gaps are expected to accelerates Valuation gap has increased over the past six months Although the vast majority (75%) of automotive executives believe that the valuation gap between buyers and sellers is 20% or less, this has fallen from 83% six months ago. With economic fundamentals in place, sellers valuation expectations have risen at a faster pace than that of buyers. Valuation gap expected to widen further over the next 12 months As economic conditions continue to improve and transaction volumes accelerate, this natural divergence between buyers and sellers expectations on pricing is expected to widen. Thirty-three percent of executives expect the valuation gap to widen over the next 12 months vs. 12% six months ago. This will likely be a short-lived phenomenon as buyers seeking inorganic growth and sellers looking to generate cash or optimize their portfolios will nd an equilibrium that allows strategic objectives to be achieved. 18

21 widen as dealmaking Do you believe the valuation gap today between buyers and sellers is: Less than 10% 10%-20% 21%-30% 21% 19% 31% 37% 38% 44% 46% 38% 75% of executives believe the valuation gap is 20% or less More than 30% 4% 3% 5% Do you expect the valuation gap between buyers and sellers in the next 12 months to: Contract Stay the same Widen 12% 12% 22% 30% 33% 55% 56% 66% 33% of executives expect valuation gaps to widen compared with 12% six months ago Pricing gaps aside, the market fundamentals are falling into place to support transactions that make strategic sense 19

22 Mergers & acquisitions, cont d. Divestments are fundamental to Divestments enable corporate objectives Recognized for their strategic value, divestments are an effective tool to address a variety of corporate objectives. Automotive companies will continue to shed non-strategic and underperforming assets as they optimize their capital structures and focus on their core business. Fewer plan to use divestments to raise capital since credit is now more readily available. Activist shareholders and hedge fund owners within automotive companies may serve as a catalyst for increased divestitures. Business-unit sales are the preferred structure for divestments Sale of business units emerged as the most popular form of planned divestment for automotive companies (33%), followed closely by sale of the entire business (29%). Although a spin or initial public offering (IPO) of a business unit only accounted for 24% of automotive responses, this area of focus for divestments saw the largest increase from that of six months ago (15%). About this survey The Global Capital Con dence Barometer gauges corporate con dence in the economic outlook, and identi es boardroom trends and practices in the way companies manage their Capital Agenda EY s framework for strategically managing capital. It is a regular survey of senior executives from large companies around the world, conducted by the Economist Intelligence Unit (EIU). Our panel comprises select global EY clients and contacts and regular EIU contributors. 20

23 driving strategic value What are the main drivers of your company s planned divestment activity? Focus on core assets Shed underperforming business unit Raise cash to compensate for underperformance of aggregate business Enhance shareholder value 15% 17% 20% 24% 29% 29% 30% 30% 35% 43% 47% 55% 43% of automotive executives plan divestments to focus on core assets Fund inorganic/ M&A growth plans 17% 30% What form do you expect your divestments to take? Sale of business unit Sale of entire business Spin/IPO of business unit Contribution of business unit to joint venture 24% 29% 33% 33% of automotive executives indicate the sale of a business unit is the expected form of divestment In September we surveyed a panel of more than 1,600 executives in 72 countries; half were CEOs, CFOs and other C-level executives. More than 900 companies would have quali ed for the Fortune 1000 based on revenue. Automotive companies accounted for 173 of the respondents with more than 60% having revenue in excess of US$1b. 21

24 For a conversation about your capital strategy, please contact us Americas Jim Carter Americas Automotive Industry Leader Transaction Advisory Services jim.carter@ey.com Mark Short Global Automotive Industry Leader Transaction Advisory Services mark.short@ey.com Europe, Middle East, India and Africa (EMEIA) Christian Uphaus Partner Transaction Advisory Services christian.uphaus@de.ey.com Far East and Oceania Tony Tsang Far East and Oceania Automotive Industry Leader Transaction Advisory Services tony.tsang@cn.ey.com Japan Peter Wesp Partner Transaction Advisory Services peter.wesp@jp.ey.com Mike Hanley Global Automotive Leader michael.hanley02@ey.com Jeff Henning Global Automotive Markets Leader jeff.henning@ey.com Acknowledgements Our special thanks go to the global Capital Con dence Barometer panel for their contribution to the survey. The global Capital Con dence Barometer panel comprises an EIU panel of senior executives and selected Ernst & Young clients and contacts who participate in the Capital Con dence Barometer on a biannual basis. The surveys are conducted on an independent basis by the EIU. EY Assurance Tax Transactions Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. About EY s Transaction Advisory Services How you manage your capital agenda today will define your competitive position tomorrow. We work with clients to create social and economic value by helping them make better, more informed decisions about strategically managing capital and transactions in fast changing-markets. Whether you re preserving, optimizing, raising or investing capital, EY s Transaction Advisory Services combine a unique set of skills, insight and experience to deliver focused advice. We help you drive competitive advantage and increased returns through improved decisions across all aspects of your capital agenda Ernst & Young LLP. All Rights Reserved. SCORE no. ED MW ED 0114 This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for specific advice. ey.com/automotive