Tire Companies Goodyear And Cooper Seem Ready For A Blowout As Market Declines Point To A Merger

It has all the hallmarks of the kind of special situation that encourages any activist investor worth their salt to get out of bed in the morning.

The potential of a merger between the under-pressure American-based tire companies Goodyear (NASDAQ: GT) and Cooper (NYSE: CTB) should have sharks circling to take a bite out of them, says The Edge (who source underperforming companies for activist involvement, Special Situations and Spinoffs).

According to The Edge, global weakness in the automotive space is affecting both Goodyear and Cooper and a merger makes complete sense. Merging the tire companies will eliminate the duplicate cost in the distribution chain and the synergies will leverage on TireHub, a US wholesale distribution chain launched by Goodyear in July 2018.

Both firms trace their origins back to Akron, Ohio, with Goodyear first on the scene after it was established by Frank Seiberling in 1898 with 13 original employees making bicycle, carriage tires, rubber horseshoe pads and poker chips.

Sixteen years later in 1914, brothers-in-law John F. Schaefer and Claude E. Hart formed their company The Giant Tire & Rubber Company of Akron to produce tire patches, tire cement and tire repair kits, and later moved it to Findlay, Ohio, where it remains to this day. The current name can be traced back to 1919 when auto-parts dealer I. J. Cooper formed The Cooper Corporation in Findlay to manufacture new tires. 

Both firms are heavily involved in motorsports with Goodyear having been the official sponsor of NASCAR since 1954 producing more than 100,000 custom-built tires for the top three series every year. Meanwhile, Cooper is the sponsor of the FIA World Rallycross Championship and Americas Rallycross Championship.

Richard J. Kramer joined Goodyear in 2000 as vice president of corporate finance before taking over as chairman, president and chief executive officer of the firm in 2010. 

Goodyear is the third largest tire company globally. It was last reported to employ 64,000 people and manufactures its products in 48 facilities in 22 countries around the world.

It makes high-performance tires ranging from construction, passenger vehicles, commercial trucks to aircrafts. But it has lost 31.8% of its market cap since the start of this year, hugely underperforming the S&P MidCap 400 Index returns of 17.5% to date.

Kramer has watched as the share price plummeted 44% this year alone and 58% over the past three years and blames it squarely on cycles; he said, “Now that we are in another industry downcycle, the second of my tenure and the third of my career at Goodyear, it’s clear that our long-term approach is the right one. Our conviction in that philosophy is unwavering.”

The firm recently filed paperwork with the SEC amid US job cuts, which are ongoing.

 The document says it wants to “strengthen the competitiveness of its manufacturing footprint by curtailing production of tires for declining, less profitable segments of the tire market.”

And it’s only going to get worse, as Kramer has admitted there’s more in store across the pond in Europe. He said, “We are diligently working to gain additional efficiencies throughout the organization. 

“Most notably, our manufacturing teams are working to reduce our conversion costs. Our European restructuring program will significantly decrease our cost structure in the region as we curtail production of tires for the declining less profitable segments of the market.”

To add to Kramer’s woes, a judge has ruled the firm must pay more than $6.7 million in damages for the death of a garbage truck driver who was killed when a tire he was inflating exploded.

It was ruled that Goodyear failed to adequately warn that an under-pressurized tire might explode during inflation. “We are disappointed with the verdict and will appeal,” James Peate, Goodyear’s director of global functions communications, told FOX Business.

Meanwhile, led by President and CEO Bradley E. Hughes, Cooper Tire & Rubber Company is the fifth largest tire manufacturer in North America and is reported to have 10,540 employees.

The firm also been experiencing a downturn with job cuts of its own, with lay offs totaling 80 in North America announced in 2017 and a further 300 jobs cut at its European factory in the UK.

General Manager Jaap van Wessum of Cooper Tire Europe said, “This has been a time of uncertainty for our colleagues and we appreciate their professionalism and cooperation throughout the collective consultation process.

“Now, with the collective consultation concluded and plans for the future confirmed, there is more certainty for the workforce, and we are helping those who will be leaving us over the coming months to do so in the best possible way for their future.

“Cooper Tire Europe will remain in Melksham and we will continue to implement plans designed to grow our business in a way that supports a long-term, sustainable future.”

A merger of both Goodyear and Cooper may a big deal for investors who love the well-known brands with decent track records.

The rationalization of production facilities by both entities will save $100m over the next three years. Moreover, affordable tire offerings by Cooper, along with high performance Goodyear tires, provide the right mix of product for customers.

Cooper, an affordable tire brand specializing in passenger and small truck/SUV tires, lost 20.7% compared to the S&P SmallCap 600 Index gain of 13.5% year-to-date.

The underperformance came mostly on account of global weakness in the automotive space impacted by tariffs on its raw materials. 

However, The Edge believes that a merger between the two has potential to turn around the fortunes of both the entities looking at the merger synergy benefits.

Currently, GT operates globally with a FY20E revenue of $15.6bn and adjusted EBITDA of $1.9bn (EBITDA margin of 12.5%), while CTB operates mainly in the US (78% of total revenue) and China (9% of total revenue), with the remaining in international (13% of total revenue) and FY20E revenue of $2.9bn and adjusted EBITDA of $378m (EBITDA margin of 13%). 

The Edge believes the merger between two will enable the combined entity to strengthen its operations in both the US and China. Additionally, after the merger, the recently launched TireHub (by GT in July 2018), a US wholesale distribution chain, will be able to offer affordable tires by Cooper along with high performance Goodyear tires, thereby saving on the multiple distribution chain cost.

On the leverage (Net Debt to EBITDA) standpoint, GT has a high FY20E leverage of 3.4x compared to CTB’s 0.7x. Post-merger, the FY20E leverage of the combined business will fall to 2.9x, considering an immediate $50m in synergy benefits in FY20E, and will pave the way for faster debt repayments due to expected margin improvements toward 13.5% until FY22E from FY20E’s EBITDA margin of 12.8%.

Considering all of the above benefits to a combination, a merger between Goodyear and Cooper would act as a pit stop for the leaking tire companies before a full blowout.