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ADW Capital Management, LLC

Ferrari Does Not Stand For Fix It Again Tony (FIAT)


The Investment Case for Fiat Chrysler Automotive (NYSE:FCAU, BIT:FCA)
August 2015

Strictly Confidential

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CONFIDENTIAL 2015 ADW CAPITAL MANAGEMENT, LLC. ALL RIGHTS RESERVED.

Investment Opportunity
ADW Capital currently maintains a significant position in Fiat Chrysler Automobiles (NYSE:FCAU, BIT:FCA)

We believe an investment in Fiat Chrysler represents a once in a lifetime opportunity to own THE premiere
global luxury brand Ferrari an asset we believe could potentially be worth ~25+ a share today for
approximately ~15 a share (The trading price of Fiat Chrysler in Milan)

Ex-Ferrari, you are getting the 7th Largest Global Automaker with huge insider ownership, the best
management team in the industry, and ~11 of Book Value, for free

So why does this opportunity exist?


Investors believe that Ferrari is only a car company
Investors do not believe Ferrari can increase production
Investors believe that Ferraris opportunity outside of cars is de minimis
Investors view Fiat as an also-ran auto company and not an owner of a soon-to-be public Ferrari

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Sergio & John: Writing Their Chapter in The Outsiders II


Sergio Marchionne
When we look at a prospective investment, the first
question we ask ourselves is: Who are the people and
are their incentives aligned with us as shareholders?
Sergio Marchionne, FCAs CEO, is one of the
Companys largest shareholders with a shareholding in
the hundreds of millions

Investing with Sergio


35.0
Sergio Marchionne
S&P 500

30.0

25.0

20.0

15.0

But beyond being a large shareholder, Sergio has


made a career of being a consummate turnaround
artist. While Sergio has held a number of C-Level
posts in his career, he has been a public company
CEO for the last seventeen years -- which have been
quite generous to shareholders

10.0

5.0

0.0
1997

The Chart to the right shows the staggering


performance of Investing with Sergio

2000

Jun 1996
Alusuisse

2004

2006

2009

2012

2015

Dec 2001 Jul 2004


SGS
Fiat Chrysler

Source: Capital IQ

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Sergio & John: Writing Their Chapter in The Outsiders II


John Elkann

Investing with John

The Company is also led by its Chairman, John


Elkann, the grandson of Gianni Agnelli

9.0

Fluent in four languages and having lived all over the


world, John is a global thinker

7.0

Exor
8.0

S&P 500

6.0

In addition to spearheading the turnaround of Fiat,


including the recruitment of Sergio Marchionne into his
current role, John Elkann was also instrumental in
simplifying his familys holdings, culminating in the
creation of Exor in March of 2009, where he now
serves as Chairman
A serial attender of Berkshire Hathaway annual
meetings, John has been laser focused on creating
shareholder value and is in the very early innings of
establishing himself among the most able of capital
allocators

5.0

4.0

3.0

2.0

1.0
2009

2010

2011

2012

2013

2014

2015

March, 2009
John Elkann takes the helm at Exor
Source: Capital IQ

Coincidentally, both Buffett and John have built their


holding companies around old industry businesses in
the midst of turnarounds

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The Case for Growth: Why Ferrari Should Increase Units


According to Capgemini / RBCs World Wealth Report, the number of High-Net Worth Individuals (HNWIs)
and their aggregate wealth, have both compounded at an average annual rate of ~8.6 percent over roughly
the last three decades
Fortunately, Ferrari has only increased production by ~2.5 percent per year over the same time period
This mismatch in growth has resulted in a compounding effect where the growth in HNWIs and their
aggregate wealth have FAR outpaced the growth in Ferraris. While the differential may seem small in any
given year, we calculated that global HNWIs and their wealth grew by almost 10x while Ferrari production
only grew by 2x over the same time period
HNWIs and Ferrari Growth1
12.0x

10.0x

HNWIs

Ferrari Production

8.0x

6.0x

4.0x

2.0x

0.0x

1985

1995

2005

2015

Not surprisingly, this mismatch has resulted in waiting lists for many Ferrari models of ~3 years
(1) Source: Capgemini / RBC Wealth Management World Wealth Report
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The Case for Growth: Why Ferrari Will Increase Units


Ferrari should always sell one less car than is demanded
Sergio Marchionne

Sergio has made many public comments implying that he is going to increase production
He has also been on record saying, there comes a point when exclusivity, if it becomes unreachable, is no
longer exclusivity, its like youre reading a fiction novellets not fool ourselves, we are in the business
of selling cars to people
In Sergios May 2014 Analyst Day he laid out what we view as extremely conservative economics of scaling
production of Ferraris from 7,000 to 10,000 per year. We do not view this as a thought exercise
A slide titled Sergios Views in the Ferrari Presentation states, volume could potentially increase to 10,000
cars p.a. as HNW population expands especially in emerging / non-traditional markets
But most importantly, we find the fact that long time Ferrari Chariman, Luca De Montezemolo quit while
receiving a 15M payment in connection with his resignation. This is especially telling since his resignation
came only one month before the announcement of Ferraris planned IPO
Luca had publicly opposed raising the production cap for Ferrari and had been described by news media to
be continuously butting heads with Marchionne

A telling indicator of production increases appeared three days after Lucas resignation,
when Ferrari announced a 5 percent production increase

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The Case for Growth: Operating Leverage at Its Finest


Gross and EBIT Margins will Converge
Over the last 3 years the difference between Gross
and EBIT Margins in our Auto Peer Group has been
~12%. Ferrari is ~30%

Ferrari Margins
70%

Gross Margin

EBIT Margin

60%
50%

Historically, Ferrari has not had to invest in Sales &


Marketing and we dont expect this to change. As a
result, as units scale, the gap between Gross Margins
and EBIT Margins will converge to ~10%
R&D costs as a percent of Total Sales have historically
been in excess of 20%. Furthermore, this percentage
is substantially higher when you remove the non-auto
sales components. Interestingly, the Company stated
in its IPO prospectus that the majority of R&D is related
to its F1 team. We dont believe this number will scale
as production grows

40%
30%
20%
10%
0%

2012

2013

2014

2015

2016

2017

2018

Source: Capital IQ and internal base case projections


Auto Peer Group includes BMW, Daimler, and Harley Davidson

Additionally, the Company has stated it does not


require any additional fixed investment to scale
production. Hence, Gross Margins will increase
substantially as slack capacity gets utilized

As Ferrari scales production with incremental EBIT Margins of 60 80% the delta between
Gross Margin and EBIT Margin will narrow significantly
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Ferrari Valuation
EBIT Margin Comparison1

Valuation Scenario Summary


FCA share price as of 8/11/2015

50%

40%

30%

Bull

Base

Bear

2018E Units
2018E Revenue
2018E EBIT
2018 EBIT Margin

10,000
4,847
2,137
44.1%

10,000
4,696
1,947
41.5%

9,000
4,073
1,427
35.0%

EV / EBIT Multiple

18.0x

16.5x

15.0x

25.52
( 10.58)

21.32
( 6.38)

14.20
0.74

8.4%
5.5%

8.4%
4.5%

5.5%
3.5%

Ferrari Value / Share


Implied Value of the FCA Stub

20%

Memo:
Unit Growth p.a. (2015E-2018E)
Pricing p.a. (2015E-2018E)

10%

0%

Source: internal projections

2012

2013

2014

Ferrari

2015

Hermes

2016

2017

Auto Peer Group

2018

Note: Model does not include upside from licensing. Projections driven solely from
incremental units sold

We believe that a luxury multiple is justified due to Ferraris capital intensity, EBIT margins at scaled unit production,
operating leverage, and price inelasticity. In fact, Hermes today trades at 16.5x 2018E EBIT and has lower
projected operating margins and higher capital intensity

Based on our model, we believe that the FCA RemainCo / Stub at ~11 of book value and 3.00
5.00 of earnings power is not worth a negative value
(1) Auto Peer Group includes BMW, Daimler, and Harley Davidson
Source: Capital IQ and internal projections
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Ferrari Is Not Just a Car Company (Upside to Model)


"I have the big responsibility to keep alive this dream that is called Ferrari"
Enrico Galliera, Head of Sales and Marketing, Ferrari

We believe the ancillary revenue opportunities were not fully


realized because Luca was dead set against bastardizing the
brand. While there is significant opportunity, exemplified
below, it is not included in our model
Licensing / Media
Hublot, special edition watches and events
Expand F1 Revenue sources to improve profitability
Experiences
Ferrari World Abu Dhabi, worlds largest indoor theme park
FerrariLand PortAventura, 5-star hotel on premise
Plans to have third-party built theme park on every continent
White Labeling
Alfa Romeo / Maserati use of Ferrari-derived engines
Potential to supply Red Bull (F1) with engines following Renault

The incremental revenue opportunities beyond production growth are immense. Largely driven by
white-labeling Maserati and Alfa Romeo engines, we think Ferrari could add ~300 500 million of
EBIT or ~4.0 6.0 of value over the next several years (not in our model)
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Case Study: Patek Philippe


Patek Philippe is an almost 300 year old ultra exclusive luxury brand. It is a watchmaker at its core but we
believe it retains a luxury position most analogous to Ferrari
Patek does minimal marketing themselves but when they do they often cite the slogan, you never actually
own a Patek Philippe watch, you merely look after it for the next generation. Another slogan often cited is,
begin your own tradition
While we struggled to get Patek unit production before 1995, the compounded growth through 2010 was
roughly 7 percent similar to what we saw in growth in HNWIs over that same time period
In 2010, Patek consciously embarked on a mission to grow its production to maintain its relevance since it
was losing market / mind share to its peers and wanted to catch up with the growing demand of
HNWIs/Aggregate Wealth. In recent articles, Management intimated that additional capacity would allow
them to grow from 60k units today to 100k in units but they would not exceed that for the time being
From 2010 2015E, the Company will have grown unit production almost 8.5 percent annually while
Management has stated publicly that demand far outstrips supply, which is supported by record secondary
market prices
Patek Philippe Production1

Units
CAGR (%)

1995

2010

2015

15,000

40,000

60,000

6.8%

8.4%

(1) Source: Thierry Stern, Ben Clymer, Bloomberg, internal research


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How Ferrari Becomes Patek


When you buy a Patek Phillippe, like a Ferrari, you join a family
Pateks entry level Aquanaut gets you into the family, and as you become more successful you upgrade
and begin collecting the more exclusive models
Increasing units to 10,000 through an even distribution across existing models is not the answer
We believe that the growth in units will vary across Ferraris mix of models with the entry level Dino
increasing a disproportionate amount more than the ultra-exclusive high end models. As price increases,
the exclusivity is likely to follow
The secondary market is currently capturing a significant share of Ferraris economic value
The willingness-to-pay of customers is clearly high, illustrated by the fact that used Ferrari model values
are higher than the new values in many cases
The first used La Ferrari went up for sale for $3 million, greater than two times the original sticker price
Customers that arent putting up with the wait list and are buying in the secondary market not only
represent lost economic value, but are alienated and are not able to join the Ferrari family
If entry level customers are increased by increasing Dino units, the likelihood of having a lifetime
customer increases as well

Ferrari only has 6 8 models. Patek Phillippe has 241.

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Fiat Chrysler RemainCo / Stub


We believe that part of the reason why this opportunity exists is because major news outlets have been
focused on Sergios view on capital inefficiencies in the mass market auto industry and his desire to catalyze
consolidation and participate in it NOT on his hidden gem with Ferrari. We believe this is on purpose
While FCA may make fewer cars, it has as a number of valuable brands/assets that dont have Fiat and/or
Chrysler in their name. They include:
JEEP
RAM
Alfa Romeo
Maserati
Performance Business / Parts Business
In Sergios 2018 stand-alone plan, he is driving incremental growth in these higher margin Truck/SUV/Luxury
categories. While we agree that consolidation offers a tremendous amount of synergies, we dont think you
are paying for it at these prices
The RemainCo / Stub will have ~11 of book value and according to Sergios 2018 plan (not adjusted for
the benefit of Euro move from 1.40 to ~1.10) approximately 3.00 5.00 of earnings power in 2018

Our investment case is predicated on the fact that the Company (ex-Ferrari) which has ~11 of
book value and 3.00 5.00 of earnings power is not worth a negative value

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What if the 5-Year Plan and Merger Negotiations Fail?


If Sergio is unable to execute on the 5-year plan and/or negotiate a merger for the Stub, we believe
that there is a substantial opportunity to continue realizing the value of FCAs assets through sales or
spins (and we believe all of the listed assets are truly detachable)
Ram
In 2009, Sergio separated the Dodge and Ram brands. We believe this was on purpose. Ram doesnt
leverage shared platforms, it has 22% market share, and it has considerable barriers to entry due to its
economies of scale and light truck import tariffs. It is an unencumbered brand that can easily be spun off
At 10.0x EV / EBIT, we believe Ram is worth ~9.25 per share
Maserati and Alfa Romeo
Maserati and Alfa Romeo are luxury brands that Volkswagen and other players have historically been
interested in. Our valuation is solely predicated on the EBIT contribution from Maserati and ascribes zero
value to Alfa Romeo
At 10.0x EV / EBIT, we believe Maserati is worth ~2.00 per share
Parts & Performance
According to Reuters, FCA has already turned down a 2.5B bid for Magneti Marelli, a fraction of the parts
business, and has received interest from buyers at 3B
This represents a TTM EV / EBIT multiple of 13.4x for the asset, or ~2.00 per share

We think Sergio will continue to execute on his plan but believe these assets realistically offer
~13.25 per share on a fully unencumbered basis -- a real margin of safety. Not included in this
total is Fiats most valuable remaining asset, Jeep, which Adam Jonas at Morgan Stanley
believes at a normalized EBIT margin of 10% could be worth ~23B, or ~15.50 per share today
CONFIDENTIAL 2015 ADW CAPITAL MANAGEMENT, LLC. ALL RIGHTS RESERVED.

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Why Does This Opportunity Exist?


We believe that there is no upside to John and Sergio telling the market what Ferrari is
really worth today
If John has no plan to immediately sell Ferrari, there is no reason for its entire value to be realized today. It
removes Johns optionality to increase his position size or for Ferrari to repurchase shares
To date, most of the merger discussions have been focused solely on the Stub. If Ferrari was still part of
the HoldCo and its value was realized, we believe that FCA would be susceptible to a hostile takeover
Consider a scenario where a public bid was made for FCA for 20 per share, which represents an
approximate 50% premium. John would then have to reveal what he really thinks Ferrari is worth, which
puts himself in a precarious situation in the valuation of the Stub if the market is unwilling to accept his
value
Ferrari isnt truly an IPO, its a spin with a minimal float of 10%
We believe that John and Sergio are not price sensitive on the 10% as it will allow the market to realize the
value of Ferrari and better appreciate the value of the Stub
John is a long-term owner, not a trader. Like Buffett, John sees Ferrari as a Sees Candy type business
Buffett says that time is the friend of good businesses and the enemy of the bad. There is no lost value in
John waiting as Ferrari steadily increases in value

We believe that there is significant reason for Sergio and John to be tight-lipped about the true
value of Ferrari
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15

Why Is the Right Time to buy NOW?


We believe that investing in Fiat today represents an asymmetric risk / reward opportunity
that will not be available in attempting to purchase Ferrari post-spin
Due to the structural inefficiencies in the capital markets and the limitations of its players, we believe that the
opportunity to buy both Ferrari and the Stub at current prices is one that will disappear quickly
Many growth/luxury goods investors will have to own Ferrari based on their mandates, yet they are unable
to own Fiat today (i.e. dont have an auto analyst / cant buy cyclicals). Similarly, many current auto-centric
owners of Fiat dramatically undervalue Ferrari and hence think the auto portion of the business is more
expensive than it is. When Ferrari is trading separately, they will be buyers of the Stub on new valuation
There will be buyers of the 10% at IPO but likely none for sale. During the three month period after listing,
arbitrageurs will recognize the valuation gap between Fiat and newly listed Ferrari and will hedge the gap
This is illustrated in Sergios most recent comments from the Q2 2015 earnings call, highlighted below:
Excerpt from Q2 2015 Earnings Call

Based on Managements conservative estimate of Ferraris value, which we believe is


substantially undervalued, youre buying the Stub today for ~1x 2016E EBITDA. Whether you
buy Fiat today for the Stub or for Ferrari, we think both will be sound investments over time
CONFIDENTIAL 2015 ADW CAPITAL MANAGEMENT, LLC. ALL RIGHTS RESERVED.

16

Contact
ADW Capital Management, LLC
1133 Broadway Suite 719
New York, NY 10010

Adam D. Wyden
212-920-9634
adam@adwcapital.com

CONFIDENTIAL 2015 ADW CAPITAL MANAGEMENT, LLC. ALL RIGHTS RESERVED.

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