Porsche: The Hedge Fund that Also Made Cars

Oct 24, 2014 86,654 views

When you play the game of thrones you win or you die. There is no middle ground.
Cersei Lannister, The Game of Thrones
***
In 2008, Porsche was cruising.
The luxury car manufacturer generated $13.5 BN in pre-tax profit, and sold a record 98,652 automobiles -- a
staggering $136K profit per car sold. Even for a luxury brand, the numbers seemed nearly impossible.
Upon closer inspection, $11.5 billion dollars of that profit wasnt from selling cars -- it was from speculating on
financial derivatives: Porsche was furtively amassing a sizable position in call options to buy up Volkswagen
shares. As a report from the BBC put it, Porsche was a hedge fund with a carmaker attached. In 2008, the car
business was good, but the financial engineering business was even better.
The companys CEO at the time, Wendelin Wiedeking, was the highest paid executive in all of Germany. Hed
taken the helm of the company in 1993 when the once-fabled car-maker was bleeding money and at the edge of
irrelevancy. When he took the position, he negotiated a seemingly moot provision in his contract that would
give him 1% of the companys annual profits as bonus -- in the unlikely event the company ever turned a profit.
The company was losing $150MM a year at the time; no one couldve foreseen how lucrative that provision
would turn out to be.
The companys operational performance improved tremendously under Wiedekings decade-long management,
and the company sold thousands of cars at very lucrative profit margins. And so, the CEO set his sights on an
even bigger financial coupe: Hed acquire Volkswagen, the largest car manufacturer in Germany. At the time,
Volkswagen produced 50 times more cars than Porsche. But, starting in 2005, the smaller competitor quietly
bought up Volkswagen shares and options; by October 2008, Porsce announced that it controlled 74% of VW.

At that moment, the hostile takeover of massive Volkswagen by little Porsche seemed inevitable. But just five
months later, Porsches plan fell apart:
part: just before completing the acquisition, the global financial crisis
worsened and the company ran out of money. Porsche had gone severely into debt to buy out VW; all of a
sudden, banks were very anxious to get their $13 billion in loans repaid.
Porsche
he was left scrambling for a white knight to save it from its financial woes. In a stunning turn of events,
that white knight ended up being Volkswagen, the very company Porsche had attempted to acquire.
Wendelin Wiedeking: Porsches Golden Boy
Porsche, like
ke most German automobile makers, has seen its fortunes rise and fall dramatically.
Founded in 1931 by Ferdinand Porsche, the company was initially an automotive design consultancy that
helped automakers design cars. Most notably, the company designed The Beetle, dubbed by Adolf Hitler as the
peoples
s car, on behalf of its biggest customer -- Volkswagen.

Ferdinand Porsche (tallest person in picture) with a Porsche

Porsche-designed
designed Volkswagen in 1939.
It wasnt until 1948, when Ferdinands son Ferry
Ferry Porsche couldnt find a sports car to his liking, that Porsche
began making its own cars. The companys first model, the Porsche 356,, was a success: it went on to sell
76,000 units, and put Porschee on the automotive map. In 1963, the company launched its signature model, the
Porsche 911; today, the car is still the linchpin of its lineup.
Ever since Porsche produced its original model, the companys cars reputation vacillated between luxury
precision engineering and over-priced
priced junk that breaks down frequently. In 1993, it was firmly in the later
category, and dark times had descended on the company.
After selling 50,000 vehicles per year in the 1980s, the companys sales plummeted to 14,000
14,0 cars in 1993. In
the US, Porsches largest market, the company was obliterated. The rising value of the Deutschmark, the
increasing popularity of Japanese cars, and a US recession tanked sales to 3,000 cars sold per year, down from
30,000 just a few years
rs earlier. The company was in financial ruin.

This was when 39-year-old Wendelin Wiedeking took over as Porsche's CEO. A former company engineering
manager, Wiedeking sought to revitalize the German automaker by adopting new-fangled Japanese techniques.
He operated on a fresh set of principles: manufacture cars with fewer defects, handle less inventory, and hire
fewer production workers.

Wendelin Wiedeking via Porsche.com

To implement these radical changes at Porsche plants, he enlisted the help of Shin-Gijutsu, a Japanese
consultancy made up of ex-Toyota manufacturing experts. Yoshiki Iwata, the lead consultant, recalls Porsches
less-than-ideal conditions:
It was appalling. Where is the car factory, I asked myself. It looks like a mover's warehouse! And there
were no workers, just apes clambering up and down shelves.
An extensive revamping of production methods ensued. At the consultants behest, Wiedeking symbolically
sawed the factory's storage shelves in half; now there was 50% less shelfspace to keep all this wasteful
inventory around.
Though some employees resented being ordered around by consultants who didnt speak a lick of German, the
Porsche factories improved dramatically under Wiedeking: assembly time per vehicle went from 120 hours to
72 hours, defects per vehicle shrunk 50%, the labor required to make the cars fell by 19%, and 30% less factory
space was used.
Perhaps most strikingly, Porsche shed its artisanal view of craftsmanship for a more scientific one -- something
Daniel Jones, a professor at Cardiff Business School, enumerated on in a 1996 New York Times article:
"The traditional craftsmanship for which Germany became famous was filing and fitting parts so that they fit
perfectly. But that was wasted time. The parts should have been made right the first time.
So the new craftsmanship is the craftsmanship of thinking up clever ways of making things simpler and easier
to assemble. It is the craft of creating an uninterrupted flow of manufacturing."
When the US and global economy rebounded in 1996, Porsche was a leaner, more efficient company poised to
take advantage of increased demand. Sales spiked, especially in the United States: by the end of 1996, the
company had broken even, and by 1998, it was turning a $166 million profit.

Wiedeking, who had negotiated in his contract that he would receive 1% of the pre-tax profits as a bonus,
received a sizable payday. But his pot of gold was about to get much larger. During the Wiedeking era, the
company introduced a slightly more affordable sportscar (the Boxster), and an SUV (the Cayenne), the latter
during a time when Americans were gaga for SUVs. These introductions effectively tripled the revenue of the
company.

Note: Wiedeking took over in 1993. Data via Porsche.com.

By 2005, the companys revenue had jumped to $10.3 billion per year, compared to $1.7 billion in 1993. The
company made a whopping $1.9 billion in profit, entitling Wiedeking to a bonus of around $20 million. In
2006, every employee received a $4,655 bonus.
Around this time, Wiedeking started grappling with what to do next. According to his philosophy, the company
needed to be actively working on something new, otherwise it would atrophy resting on its laurels. He recalls
his process:
...I just started to talk about visions for 2005 and 2010. Where will the company be in 2005 and 2010? In
2002, we introduce the SUV. What will we do then? This is, again, my job, because a company must grow. If a
company is not able to grow, it is not able to survive. If you stagnate, I think, that's the beginning of the end."
At the onset of the 21st century, Porsche had emerged from a crisis stronger than ever. Operations were
modernized, new products were selling strongly, and profits were at an all-time high. As recalled by then-CFO
Holger Hrter, Porsche had launched these products and invested in operations without using any debt:
We learnt the hard way that banks are there for you when you dont need them, and when you do need them,
theyre no where to be seen.
And yet, the very same CFO and Wiedeking would forget this lesson only a few years later. The company
would borrow billions of dollars as it sought out its next conquest: the acquisition of Volkswagen. And, just as
CFO Hrters observation suggests, when Porsche needed the banks the most, they would be nowhere to be
found.
The Prize of Volkswagen

In 2005, Volkswagen had the dual privilege of having a depressed stock price and being an important partner
for Porsche. Though the company had $123 billion dollars in annual sales, its annual profits were only around
$2.2BN and its market capitalization only around $17BN. It was widely considered by the financial
community to be a pretty crappy company, which is why it was trading at such a low multiple of revenue.
Since Volkswagen was trading relatively cheaply for a company with $120 billion in sales, there were rumors
that at US corporate raider like Kirk Kerkorian would make a play at acquiring them -- or worse yet, that an
American or Japanese car company could swallow them. There were, after all, a lot of companies out there that
could shell out $17BN.
Though Porsche had always had a close relationship with Volkswagen, over the years Porsche had become
increasingly reliant on its larger counterpart. Most notably, the Porsche Cayenne SUV, responsible for almost a
1/3 of the companys sales by 2005, was built using the VW SUV chassis -- a move that saved Porsche
hundreds of millions of dollars. Porsches 4-door soon to be released sedan, the Panamera, would also be built
on a VW chassis. These new Porsches were essentially fancy Volkswagens with a Porsche engine dropped in.
With this context in mind, on September 25, 2005, Porsche announced that it was paying $4.2 billion to acquire
a 20% stake in Volkswagen. Though this was a sizable part of Porsches $6.0 billion cash reserve, the
transaction would make it very difficult for a corporate raider or competing car company to swoop up
Volkswagen, and thusly compromise Porsches ability to build cars on Volkswagens platforms. In his initial
announcement, Porsche CEO Wiedeking made it clear that this minority position was taken just to stave off
potential hostile takeovers. Porsche, he adamantly stated, would not be trying to take over the company:
"Our planned investment is the strategic answer to this risk. We wish in this way to ensure the independence of
the Volkswagen Group."
The financial markets were baffled by Porsches acquisition of Volkswagen shares. Why was a sports car
company pouring so much money into a struggling mass-market car company? It seemed to be the equivalent of
a company like Hermes announcing it was taking a large stake in Old Navy.
Porsche told us that they were going to invest back into the company rather than pay higher dividends, wrote
an German financial analyst at Dresdner Kleinwort Wasserstein. Now they're investing into one of the least
profitable car companies in Europe.
The Economist weighed in on CEO Wiedekings move -- somewhat prophetically, it turns out:

Mr Wiedeking is one of those rare beasts in the corporate jungle who have not yet had their come-uppance. He
is widely revered for his forthrightness and his leadership of Porsche, from the dark days of near-bankruptcy in
1993 when he took over, to years of growth and glowing results today. So it would be a pity if this David
overreached himself and fell victim instead to another phenomenon, known as the Peter principle: promotion
beyond one's level of competence.
There another thing, too: In 2005, it was technically impossible for Volkswagen to get acquired by anyone
because of something called the Volkswagen Rule. The essence of this rule was that the local German
government of Lower Saxony owned 20% of Volkswagen and could prevent anyone from acquiring company
without their permission, or anyone from having more votes than them over shareholder matters.
However, this law was incompatible with European Union laws that barred capital restrictions like this, and
there was reason to believe that it would be soon repealed. When this happened, Volkswagen would be fair
game for an acquisition. With its 20% share in the company, Porsche made it less likely that anyone else would
be able to buy Volkswagen in the event of a repeal.
One year later, in August 2006, Porsche modestly increased its stake in Volkswagen from 20% to 25%.
Moreover, the company started actively lobbying for Germany to repeal the Volkswagen Rule so that Porsche
could take full advantage of [its] rights as a shareholder. Publicly, Porsche still claimed to not be interested
in an acquisition.
By November of 2006, Porsche had increased its holdings in Volkswagen to 29.9%. A Businessweek headline
trumpeted Porsche's 'King Looks to Expand Empire (or course, referring to Wiedeking). As recounted by the
New York Times, Wiedeking began discussing Volkswagen as if he were already its boss:
We could be passive board members or active board members, he said at a meeting that was supposed to be
about the performance of his company. Our intention is to be very, very active members of the supervisory
board.
We believe that if anybody can stand up to Toyota, it is Volkswagen...There will be some changes -- there have
to be some changes, no doubt.
Buying a stake protected Porsche's access to VW factories. Besides, Wiedeking grins, the share price was
cheap.
By now, another of Porsche's reasons for purchasing Volkswagen shares had become apparent: Porsche thought
the company was cheap, and it was getting a good deal. In interviews from around this time, Wiedeking refers
to Volkswagen as a goldmine with lots of opportunity to make the kind of operational improvements that
turned Porsche around years earlier.
Turning around Volkswagen was to be the next grand project for Wiedeking and Porsche.
As Porsche continued to state publicly -- and vociferously -- that it had no intentions to take over the larger
Volkswagen, its actions indicated otherwise. In March 2007, Porsche announced it would increase its share in
Volkswagen to 31%. By now, Volkswagen shares were trading at twice the price from when Porsche started
acquiring them two years prior. It was getting expensive to buy Volkswagen.
A year later, in March 2008, the Porsche supervisory board gave the company authorization to increase the
companys share in Volkswagen to 50%. By this point, Volkswagen shares had tripled in price from three years
before, when Porsche started buying them.
Volkswagen Becomes the Most Valuable Company in the World

As Porsche slowly bought up Volkswagen shares, the financial markets reacted in two ways. First, the price of
Volkswagen shares continued to trend upwards -- despite the companys poor performance. This was based on
the belief that Porsche would continue to buy up shares and drive demand for the stock upward.
Second, there were many who felt that Volkswagens share price was a case of the emperor has no clothes
and that the Volkswagen stock price would soon fall. The price was artificially high based solely on the
expectation that Porsche would keep buying shares in Volkswagen -- not because of anything fundamental
about Volkswagen. Given that the Volkswagen Rule was still in effect (and that Porsche publicly stated it
wasnt interested in merging with Volkswagen), many analysts were betting that Porsche would soon stop
acquiring Volkswagen shares, and that their value would plummet.
In the truest sense of the term, the Volkswagen shares that Porsche acquired were only valuable on paper.
That is, if Porsche tried selling any of these shares, the value of its Volkswagen holding would likely drop
because the market expectation that Porsche would continuing buying Volkswagen would. At the same time,
buying more shares in Volkswagen would continue to be expensive because that would mean Porsche continued
to prop up the price.
By 2008, the full effects of the Financial Crisis had hit public markets and it was seeming less than likely that
Porsche could borrow enough money to buy up shares of Volkswagen. That fall, Lehman Brothers, Bear
Stearns, and Washington Mutual collapsed. Almost every American bank received a cash infusion from the US
Government to avoid insolvency. After a years of lax lending practices, banks stopped lending money.
As a result, Volkswagen became one of the most shorted stocks on the market. By October 2008, almost 12.8%
of the shares were being shorted with the hope that the price would fall and the shorters would make a profit.
On October 20, the financial publication Barrons published a story about VW titled The Worlds Most
Overvalued Stock and surmised that Volkswagen shares would likely drop like a Beetle pushed from a cliff
once Porsche stopped purchasing the companys shares.
The timing of this article couldnt have been worse.
On October 27 2008, Porsche dropped a bomb on the financial community: it had again raised its stake
in Volkswagen -- now to 42.6%. Moreover, it had secretly purchased cash-settled options to purchase another
31.5% of outstanding Volkswagen shares. Combined, Porsche had now corned 74.1% of all Volkswagen

shares! Moreover, after years of denying its intent to acquire Volkswagen, it now finally stated it intended to
pursue a domination agreement -- or 75% of the shares. In doing so, the $12 billion sitting on Volkswagens
balance sheet could be used by Porsche to finance this acquisition.
For the short sellers, this was a disaster. Not only was Porsche continuing to buy up Volkswagen, which drove
up its price, but since Porsche and the Lower Saxony government controlled 94.1% of the Volkswagen shares
together, there were practically zero available shares on the market for the short sellers to cover their position.
The Volkswagen share price shot up from $200 per share to $500 per share in one day. The following day, the
shares skyrocketed to almost $1,000 per share. For a brief moment on that day, Volkswagen was technically the
most valuable company in the world.

Volkswagen stock price in for the first 10 months of 2008.

Short sellers lost tens of billions of dollars over those two days. On the third day, Porsche agreed to make 5% of
its shares available to the market to provide liquidity to buyers (and presumably turn a massive profit on those
shares). Only then did Volkswagen shares return to more earthly levels.
This maneuver of secretly buying shares would have been (and still would be) illegal in the United States. In
Germany though, where Porsche is based, it was likely legal. Normally, it would have had to disclose its
growing position, but it used cash settled options, which technically wasnt considered buying shares in the
company. That meant that the underlying asset of the derivative was cash equal to the the price of a Volkswagen
share -- not an actual share. Moreover, it bought these options in small amounts spread out among six different
banks. It was so convoluted that no individual person knew the extent of Porsches move.
Porsche was at the verge of completing one of the most audacious acquisitions ever. It had gained control over
74.1% percent of the shares of one of the largest companies in the world. Moreover, when it reached 75%, it
would attempt to gain access to Volkswagen's cash reserves. And if the Volkswagen Rule was repealed (as
was widely expected), Porsche would easily be able to own Volkswagen outright.
But none of this happened. Instead, over the next few months, Porsches plans fell to pieces.
Meanwhile at Volkswagen

According to rumour, Ferdinand

erdinand Pich likes to run chickens off the road in his Volkswagen Touareg. Whether
that is true or not, he certainly tends to ride roughshod over humans, metaphorically at least.
-- The Economist on Ferdinand Pich, Chairman of Volkswagen
***
If there is a Vladimir Putin-type
type character in the automobile industry, Volkswagen Chairman Ferdinand Pich is
a good candidate. Known for ruthlessly firing Volkswagen senior executives and CEOs, and buying up luxury
lu
sports car companies on a whim, Pich was running Volkswagen as his own personal kingdom. After decades at
the company, he had transformed second-tier
second tier maker of unreliable German cars into a stable of powerhouse
automotive franchises with over a hundred
hundred billion dollars of sales per year. Piechs autocratic rule had made
Volkswagen a force to be reckoned with.
But to everyones surprise, Ferdinand Pich appeared to give up Volkswagen without much of a fight. At the
beginning of 2006, Piech announced he would
would resign from the board of Volkswagen when his term ended in
2007 in order to make way for Porsche CEO Wiedeking and CFO Hrter.
While uncharacteristic, it appeared to all that perhaps he had recognized his time running Volkswagen was
coming to an end.
But Pich would not end up stepping down. Instead, he would remain behind-the
behind the-scenes and manipulate the
process so Volkswagen would end up buying out Porsche at the 11th hour -- after nearly every analyst had
assumed that Porsche was acquiring Volkswagen.
Volkswagen. In the end, Pich would get the job that hed always vied for,
but that had eluded him for years: Hed get to run Porsche.
Despite his last name, Ferdinand Pich is actually the grandson of Porsche's founder, Ferdinand Porsche. By
virtue of this lineage,
age, he was the second largest shareholder in Porsche.
During this episode, Pich sat on the boards of both Porsche and Volkswagen. While running Volkswagen, his
Porsche holdings were becoming very valuable; as Porsche bought up shares in Volkswagen, he made billions
of dollars.
To say this was a conflict of interest would be an understatement.

***
Ferdinand Porsche, the founder of the eponymously named company, had two children: a boy and a girl. The
girl married a boy with the last name Pich, hence half the heirs to to the company have the name Pich, and the
other half more fortuitously retain the Porsche surname.
Ferdinand Pich, the grandson of the founder, was born with a 10% stake in Porsche -- the same as the rest of
the grandchildren. He entered the family business in 1963, and, by 1971, became Director of Engineering. As
such, he was the leading contender to succeed his uncle as CEO of Porsche.

Ferdinand Pich (on left) with this uncle Ferry, the CEO of Porsche. Image via Stuttcars.com.
However, family squabbles would prevent this from happening.
As sometimes happens with family businesses, things were in a bit of a disarray by the third generation. In the
case of Porsche, the acrimony had grown so bad that in 1970 the family decided no member of the PorschePich clan would be allowed to play an active role in the management of the company. Instead, the family
would continue to run the board and retain 100% of the voting shares in the company.
For members of the Porsche family relaxing with their trust funds, exiting the management of the family
business was all well and good -- but it meant that Ferdinand Pich, the heir-apparent to running the company,
had to find a new job. In 1975, he joined Audi, a small car brand owned by Volkswagen, as the Head of
Technical Development.
Ferdinand Pich had also been the instigator of much of the familys drama. In 1972, as a married man with five
children, Pich struck up an extra-marital affair with Marlene Porsche -- the wife of his cousin and fellow heir,
Gerd Porsche. Pich left his wife for Marlene, and they cohabited for twelve years and had two kids together
(during this time, Pich also fathered two children with other women).

You can imagine that taking up with your cousins wife might make things awkward at Porsche-Pich family
reunions and company board meetings. Many family members suspected Pich did this solely to gain access to
the company shares that Marlene received in the divorce, though this fear never materialized: in 1984, Pich left
Marlene for their 27-year old nanny, Ursula. They are still married today.
At Audi, Pich was credited with integrating the Quattro all-wheel-drive system into the cars, and turning the
company into the sporty luxury brand it is today. In the mid-1980s, reports surfaced that the cars were
accelerating erratically and causing serious injuries; Audi had to institute a massive vehicle recall in the US.
When Pich brusquely responded -- We must teach Americans how to drive -- sales of the companys cars
fell by 50% within a couple of years.
In 1988, Pich became the CEO of Audi. By 1993, he was CEO and Chairman of the parent company,
Volkswagen. At the time the company was losing over a billion dollars a year and was reportedly just three
months away from bankruptcy. Pich brought the company back from the dead: he cut costs by reducing the
number of vehicle platforms used from 12 to 4, brought in General Motors cost cutting ace Jose Ignacio
Lopez, and swiftly taught himself the politics of dealing with labor unions and the German government. Instead
of laying off workers, he negotiated a 20% reduction in working hours and lower salaries.
He also tremendously grew companys market share in the US and Europe with the introduction of cars like the
new Beetle and the VW Passat. By 1998, hed transformed Audi into a legitimate competitor of Mercedes and
BMW. But, as recounted in a Businessweek article, this turnaround came at a cost:
Pichs visionary leadership has a dark side. VW's achievements since 1993 have come in a virtual autocracy.
Moreover, his iron grip on VW means there are few checks and balances on his decisions. Pich has shrunk
VW's management board to just five members, from nine before he took the top job. He holds personal
responsibility for R&D, production, purchasing, and the VW brand--areas typically assigned to individual
directors.
With his staff, Pich did not tolerate dissent. During his time at Volkswagen, he fired over 30 board members,
as well as the CEOs of Volkswagen and Audi. At the tail end of 1994, a year after Pich was named CEO, a
group of Volkswagen managers submitted their thoughts to the then-Chairman of the board: this company is
run by a man with psychopathic traits.'' In one meeting, a manager made the mistake of questioning a policy of
Piechs; Piechs icy response: Im going to remember your name.
But under Pichs command, Volkswagen thrived. So much so, that they could afford to buy up a slew of sports
car companies. In rapid succession, the company acquired Bugatti, Lamborghini, Bentley, the assets of (though
not the brand of) Rolls Royce, in addition to brands like SEAT, Skoda, and Ducati. In this era, Volkswagen
became a global car powerhouse on par with Toyota or General Motors.
In 2002, Pich reached the mandatory CEO retirement age of 65; while he stepped down as the CEO, he
remained Chairman and retained dictatorial power. Union leaders, German politicians who oversaw the
governments stake in the company, and top executives were all hand picked as Pich-loyalists.
All this is to say it was surprising that Pich was sitting by idly as the Volkswagen Empire he had built with an
iron fist was being devoured by some upstart who was running Porsche -- the family business that Piech was
deprived of taking over.
Throughout the process of Wiedeking and Porsche slowly acquiring their stake in Volkswagen, Pich was
publicly silent on the issue. Not only that, but he sat on the boards of both companies, so he was very much
aware of what Porsche was doing. Since he was one of the largest shareholders of Porsche, observers noted he
may be selling out Volkswagen to Porsche so that he could profit from the move.

In 2006, with two years left on his CEO term, Pich announced he would be stepping down from the
Volkswagen board when his time expired. It would seem that he had capitulated to Wiedeking and Porsche. But
as that two year period came and went, Pich soon reversed his decision.
It would seem that Pich was just biding his time.
Porsche Crashes in the Final Lap

Porsche race car in 1969. Image via Stuttcars.com.

By the end of 2008, Porsche had acquired 42.6% of Volkswagen and had the option to acquire 31.5% more.
However, in this process the company had also acquired $13BN in debt to finance the acquisition.
Volkswagen stock had appreciated substantially, and the company had made a paper fortune on these financial
trades; meanwhile, speculators shorting Volkswagen stock had lost tens of billions of real dollars. Moreover,
once it acquired 75% of Volkswagen, the companys $12BN cash reserves would become available to Porsche - assuming that the Volkswagen Rule would be lifted soon.
Wiedeking, the CEO, and Hrter, the CFO, were hailed as financial geniuses. Arndt Ellinghorst, an analyst at
Credit Suisse, called Porsche one of the most sophisticated investors on the planet, as well as being a car
maker." The Economist humorously noted:
Great cornering and eye-popping acceleration make Porsche's cars popular among thrill-seeking bankers and
hedge-fund managers. Now its clients are discovering that the carmaker itself has an unexpected talent for
cornering markets, as they reported that Porsche made between $7-15BN from the short squeeze.
But in reality, the company was actually in a very tough position. Their primary asset was the shares they held
in Volkswagen. Those shares were only valuable because of the markets expectation that Porsche would
continue to buy up Volkswagen stock; and if they did, it would be very expensive to buy the rest of the
company. If Porsche stopped buying up Volkswagen shares, the price of Volkswagen stock would plummet, the
value of most of Porsches assets would fall, and the company would experience massive losses.
This scenario would look very bad for Porsches creditors -- and by now, there were many. By Spring 2009,
Porsche had accumulated $13 BN in debt. This wasnt an enormous amount of debt considering they were
making $2BN operating profit a year from selling Porsches, and owned more than half of Volkswagen, but in
order to pull off buying the rest of Volkswagen, theyd need access to a lot more capital.

And precisely when Porsche needed banks the most, banks stopped lending money. The words spoken by the
companys CFO years before -- banks are there for you when you dont need them, and when you do need
them, theyre no where to be seen -- now seemed prophetic.
By the end of 2008, the great Financial Crisis had hit and all the banks had either given Porsche new funds or
allowed the company to rollover the debt when it came due; in any case, they were no longer interested in
funding a speculative scheme to corner the market for Volkswagen shares.
Porsches debts were coming due much sooner than they expected. And not only that -- after years of consistent
growth in automobile sales, Porsches core business of selling cars was hurt severely by the recession and unit
sales dropped 27% in one year.
A financial maneuver that had been considered brilliant just a few months earlier was now a poor decision:
Porsche was out of money. On March 24, 2009, loan payments of $13BN were due. While previously it would
have been a trivial matter to refinance the amount, this time the banks werent interested. Moreover, Porsche
owed money to 15 different banks, each of which could bankrupt the company if it so wished.
Porsches CFO managed to avert disaster the day before the loan was due and refinance most -- but not all -- of
the $13BN debt into a new loan. The catch: $4.4 BN of it would be due within 6 months.
But even with most of the debt refinanced, Porsche would need additional capital to pay the part of the loan that
was currently due. It just so happens that one of the board members was able to get the company an emergency
infusion of almost a billion dollars from another company that he also sat on the board of. That loan would be
from Volkswagen, orchestrated by their Chairman Ferdinand Pich.
In the blink of an eye, Porsche went from predator to prey. Once on the brink of acquiring Volkswagen, Porsche
now found itself borrowing a billion dollars from them just five months later.
Pich Twists the Knife
Porsche didnt publicly disclose the Volkswagen loan for another two months, though internally, they knew
their quest to buy out Volkswagen was over. One does not simply acquire the company you are borrowing
money from.
From CEO Wiedeking and CFO Hrters perspective, this was a setback -- but not necessarily a dire
circumstance. Porsche was still a great car company, and they had acquired half of Volkswagen with options to
acquire more of it. They might not be able to finalize the acquisition, they figured, but they still had a valuable
company -- as as long as they didnt run out of money. Surely, money would be available.
The companys immediate problem, however, was that they were about to run out of money. They now also
owed money to a myriad of banks, as well as to Volkswagen, the company they had been antagonizing. But the
looming $4.4 BN debt payment was a sword hanging over the companys head, in addition to the estimated
$790 MM annual interest payment.
Porsche needed help. At best, it could retain its independence if it brought in a new investor. Or instead, it could
merge with Volkswagen as an equal. Still worse from Porsches management perspective, it could be acquired
by another car company. The worst case scenario, however, was looking very likely -- the hallowed sports car
maker would simply run out of money and go bankrupt.
What Porsche needed was a bailout.

As many governments did during this time, the German government set up a stabilization fund to loan money to
German businesses that were in need of a bailout. Porsche applied for multi
multi-billion
billion dollar loan, but was rejected.
It couldnt have helped that head of the Lower Saxony Government, and board member of Volkswagen,
Christian Wulff, was a close ally of Angela Merkel,
Merkel, the German Chancellor. Wulff, who later became
Germanys president under Merkel, was said to be the one who convinced her not to repeal the Volkswagen
Rule.
By the end of the spring, it appeared that a savior had emerged for Porsche, in the form of the Qatar Sovereign
Wealth fund. Qatar was close to acquiring a multibillion dollar stake in the company in exchange for much
needed cash to pay down the debt.

Qatar Prime Minister and Chief Executive of the investment fund at the time.
Then, the Qatar government abruptly decided
decid not to invest in Porsche, reportedly at the urging of Lower Saxony
government head Wulff and and Chancelor Merkel. Instead, they would only invest in Porsche
Por
after it had
cleaned up its finances and resolved its situation with Volkswagen. (Qatar would later provide a cash infusion to
the company, but only after it was too late to save an independent Porsche.)
With a healthy balance sheet of cash, the suppo
support
rt of the German government, and Qatars money waiting in the
wings, Volkswagen had ample funds to pick up the wounded Porsche. Moreover, Porsche
owed Volkswagen nearly a billion dollars and that would be due soon.
Now was the time for Volkswagen to strike
strike.
After publicly staying quiet on the merger for years, Pich started rumbling about his waning confidence in the
Wiedeking and the Porsche management team and their mismanagement of the companys financance. VWs
loan would come with strings
strings attached.
attached
The strings, as it turned out, would be that Porsche would sell itself to Volkswagen, otherwise Volkswagen
would force it to pay back the loan. By July 2009, Porsche CEO Wiedeking would resign. The $71MM
severance package he received suggests this wasnt purely voluntary, but instead was to pave the way for a
Volkswagen acquisition of Porsche. Wiedeking had flown too close to the sun, and now his career at Porsche
was over.
By fall of 2009, the acquisition was set. Volkswagen would acquire the Porsche automotive business for
$11.3BN in cash (49% of it right away, and 51% of it later, for tax reasons). The Porsche family would retain
their shares in a holding company that owned 50% of Volkswagen -- but also all the Porsche debt. The Qatar
fund would, however, provide capital to the Porsche holding company to help eliminate that debt.

Considering that theyd fumbled their family business, the Porsche-Piech family did pretty well for themselves.
All said and done, they ended up owning approximately 32% of Volkswagen by the end of negotiations; a few
years later, they bought back the shares theyd sold to Qatar.
But one member of the Porsche-Piech family did particularly well: Ferdinand Pich. Under his lead,
Volkswagen had gained control of Porsche -- the company his grandfather started. His stake in Porsche became
a stake in both Volkswagen and Porsche; today, it is worth many billions of dollars.
Conclusion

You come at the king, you best not miss...

- Omar Little, The Wire
***
So, what is to be learned from the saga of Porsche?
First, if youre a car company, its probably best to focus on making cars instead of gravity-defying financial
maneuvers. Wendelin Wiedeking ran Porsche brilliantly when it was just a car company. He modernized its
operations, successfully added new products, and turned the company from near bankruptcy to a highly
profitable enterprise. It was only when Porsche started making more money from its hedge fund-like activities
than its automotive ones that Wiedeking got his comeuppance and was terminated (though his $71MM exit
wasnt so bad).
Second, capital has a tendency to be there when times are great, but disappears when you need it most. Different
parts of the economy are highly correlated with each other. So, when your business turns sour, lots of other
businesses turn sour, including the banking business. Any strategy that requires access to capital to succeed can
be shakey, because capital is likely to not be available during times of duress.
Finally, if youre going to go shoot the king, dont miss. In order for Porsche to acquire Volkswagen, they
needed to acquire 80% of the company and revoke the Volkswagen Rule -- which allowed the local German
government to block any acquisition. When the rule was not revoked, the acquisition process dragged on and
sapped Porsches financial reserves.

All of this gave Ferdinand Pich time to wait and see what would happen. And at the first sign that Porsche was
in trouble, Pich decisively struck and took his grandfathers company back.
And, finally, after many decades of waiting, he became the boss of Porsche. Or rather, he became the boss of
the boss of Porsche. Either way, Pich is definitely in charge.
If you enjoyed this post, you' might like our book Everything Is Bullshit.

This post was written by Rohin Dhar. Follow him on Twitter. To get occasional notifications when we
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