On October 1st 2010, the German department store chain Karstadt added a new and important episode to its 130-year history. After its parent company, the holding firm Arcandor, had to file for bankruptcy on June 9, 2009, a new investor for Karstadt had to be found in order to avoid its liquidation. The department store’s long tradition as well as the large public interest in Karstadt’s future, linked to the existence of 25,000 jobs, turned the process into one of the most heated acquisition battles in Germany over the last years (Spiegel, 2010a). After one year, the firm was purchased by the until then unknown German- American billionaire and investor Nicolas Berggruen, who prevailed over competing bids.
This paper will analyze the described acquisition process and shed light on its background from a corporate finance point of view. First I will briefly outline the initial situation and the main actors for the bidding process. I will then give the main reasons behind the acquisition decision of Bergguen Holdings, followed by the transaction structure with its underlying rationale. This will be complemented by a description of the main hurdles encountered during this M&A process. Finally, I will discuss the potential value creation of this acquisition and comment on the future prospects of Karstadt under the new owner.
II. Initial Situation and Competitive Bidding Process
The change of ownership in 2010 was not the only major re-organization of business management control in Karstadt’s iconic recent corporate history. In 1999, Karstadt merged with the German mail-order firm Quelle to create a retail conglomerate with more than 100,000 employees. Subsequently, the name was altered to “ rcandor” in 2007, a seemingly more international and modern term for the corporation (Finanznachrichten.de, 2007). This (rather superficial) modification, however, did not stop an ongoing deterioration in performance, which was negatively accelerated by the beginning of the macroeconomic slowdown in 2008. Already in 2006, Karstadt had sold all its real estate buildings and shopping malls to the external investor Highstreet, a syndicate headed by investment bank Goldman Sachs. The consortium comprised Goldman Sachs' Whitehall Funds (51%), Deutsche Bank's RREEF funds (24%), Milan-based Pirelli Real Estate (12%), Generali (11%) and the Borletti Group (Handelsblatt, 2006). Despite this one-time cash inflow, Karstadt was put further under pressure and, while defending itself from takeover attempts from rivals such as Metro or El Corte Inglés, was no longer able to fulfill its rental payments to Highstreet in 2009. This resulted in the insolvency of the parent company Arcandor in summer 2009, and opened the path for a bidding process with the aim of an investor acquiring Karstadt instead of a looming liquidation (Bild, 2009).
Opposed to regular M&A deals, this situation differed quite significantly from the known procedures. Given that the creditors entrusted the ongoing management to an independent insolvency administrator for a limited period of time, the reason that Karstadt was for sale, and the timely need for finding an investor to acquire it were rather obvious. This resulted in the fact that tentative rounds were limited, and the process was rather targeted towards directly receiving final binding bids. Secondly, the official recognition as bankrupt company also meant that all relevant facts were public and, thus, confidentiality issues not applicable in this case.
Where did Karstadt’s operating problems lie? Many analysts referred to the need for investments into significant renovations of the department stores, the problem of an over-diversified product portfolio which was no longer profitable in the 21st century, and the fierce competition in the industry. Most heavily, however, arguably weighed the boring and outfashioned character of the brand Karstadt, which failed to attract younger target groups while also losing market share among the elderly (Spiegel, 2010b). This downward pressure on revenues was exacerbated by high fixed costs for its personnel as well as the high rental expenses charged by Highstreet for Karstadt’s stores.
Starting in April 2010, the official call for bidders was publicized, stating that potential investors had to acquire Karstadt as a whole, including all stores. Bids were made first by the German-Swedish private equity firm Triton, followed by the Goldman Sachs-controlled real estate fund Whitehall, and the Italian investor Maurizio Borletti. Last but not least, in May 2010 the German-American investor Nicolas Berggruen joined the bid. His investment vehicle Berggruen Holdings was selected on June 7, 2010, by the insolvency administration committee to become the new legal owner of Karstadt (Spiegel, 2010c).
III. Berggruen Holding’s Acquisition Rationale
Nicolas Berggruen, the prospective owner of Karstadt, deserves a special note. Son of famous art collector Heinz Berggruen, founder of a hedge fund in New York, billionaire and currently international investor, he appeared to be rather a Wallstreet-type financial shark than an apt and considerate buyer. However, advocates referred to his strong philanthropic character, as Berggruen founded his own critical think-tank “Nicolas Berggruen Institute“, and has shown great (also financial) engagement with regards to patronage of art and architecture (Berggruen Holdings, 2011). This obscure, yet fascinating image was complemented by the fact that he has indicated to have given up any material properties (except his private jet), as he considers possessions meaningless for his quality of life, and to live only in hotels. Introducing this personality is important and relevant for better understanding the acquisition rationale.
Berggruen appeared as private and friendly bidder. His envisaged engagement is to be interpreted as a financial one, since his diversified holding does not have related businesses in its portfolio which could create synergies. Also, Berggruen never claimed to be able to leverage on such opportunities, which classifies the acquisition as a conglomerate type of ownership interest (Spiegel, 2010b). Furthermore, given Karstadt’s insolvency, this was a clear restructuring deal, which represents one of the main strengths of Berggruen Holding, as the firm specialized in investments which were often considered by critics as value- destroying. However, Berggruen preferred to see the other side of the coin and, thus, called Karstadt an unconventional opportunity, where a long-term investor like him could create value (Spiegel, 2010d). Since Berggruen Holdings is a form of private-equity company, he did not have to publicly explain all details of the investment decision, which unfortunately leaves this analysis with some open questions. Interestingly though, Berggruen’s information tactics even caused criticism from the sell-side. For instance, his letter of intent consisted of a mere nine-page Powerpoint document, which was held in very general terms, often about Karstadt’s iconic potential. Yet, the document pointed out that Berggruen’s co-investor BCBGmaxazria, headed by a well-known American designer, would provide Karstadt with 22 international fashion brands, responding to consumer needs and giving the department store increased vertical integration (Berggruen Holdings, 2010). The second key fact was that the financial strength of Berggruen Holdings meant that Karstadt could be acquired entirely through equity. Thus, neither a leveraged buy-out strategy, nor the reliance on banks for any future debt funding played a role in the acquisition, which both could have led to potential constraints (Spiegel, 2010e). Thirdly, Berggruen had his strongest argument in guaranteeing the jobs of all 25,000 employees. This gave him the important support from the unions as well as from the general public. Berggruen identified the rental prices as main problem. He stated that through cost cutting in this area, in addition to the described new business strategies and the strong brand recognition of Karstadt, the investment made sense from his point of view (Spiegel, 2010f).
IV. Underlying Transaction Structure
Some of the most interesting questions regarding the transaction have remained at the discretion of Berggruen Holdings. Despite extensive research, I was not able to obtain information concerning the due diligence process of Berggruen for Karstadt. However, as the acquisition was based on restructuring needs, it is likely that the valuation was targeted at prospective returns from the investments and capital expenditures needed for a successful re-launch of the department store. This suggests an evaluation based on IRR and net present value (NPV), rather than a valuation based on multiples, even though this cannot be supported by evidence and is rather speculative. Yet, this argument is supported by the fact that the actual purchase price, as outlined in the Sales and Purchase Agreement (SPA), amounted to one Euro. This symbolic sum must be seen in the context with the fact that Berggruen also accepted and assumed legal responsibility of all Karstadt financial liabilities which were estimated to be of around 65-70 million Euros (Stern, 2010). This also made Nicolas Berggruen admit that the deal was “venturous”, but that his gut feeling, playing a central role in the evaluation, regarded Karstadt positively, and consequently he plaed the bid (Spiegel, 2010g).
As already mentioned above, Berggruen Holdings’ strong financial basis allowed for a transaction based only on its equity capital with which it also intended to finance the described future obligations. This created a simple financing structure of the deal, and also basically eliminated any significant transaction costs. Financing with stock was no option as Berggruen Holdings is not listed. Also, any concerns regarding shareholder dilution or accretion, which are usually of key importance in an M&A process, did not apply here except maybe for Nicolas Berggruen and his investment team itself.