American Axle: Striving to Achieve Profitability in the Midst of Hostile Market Conditions
Entwistle, James R. (Jim)
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This project is an investigative study of the capital structure of American Axle & Manufacturing, a Tier-1 automotive supplier in Detroit, MI. From its beginnings in 1994, the company grew rapidly throughout its first decade as a solo company, by expanding overseas and becoming publicly traded in 1999 on the New York Stock Exchange. During the mid-to-late 2000's, however, American Axle struggled financially due to an overall decrease in demand for its products, resulting from surging oil prices, a weak US economy, and a poor credit market. In an effort to cut costs, AAM announced wage and benefit cuts for its American factory workers in February of 2008, which in tum led to a United Auto Workers strike that lasted three months. Lost revenues from the strike, combined with a declining stock value have led to severe decreases in AAM's equity dollars over the past several months. To make matters more difficult, AAM must also raise excess cash to re-tool its plants and implement new technology in response to changing consumer tastes. The key for American Axle to return to profitability is to use the cheapest means possible to raise cash in the short-run to finance long-term investments, while exploiting its most profitable market sectors by expanding operations in Asia and Brazil and downsizing its unprofitable domestic operations. AAM's decisions on how to raise cash along with where to expand affect its opportunity cost of capital, which is the expected return from potential investments forgone by using liquid funds to invest in capital. AAM's opportunity cost of capital is found by averaging American Axle's cost of borrowing money (cost of debt) with the residual claim shareholders have on cash after the company has paid down its obligations (cost of equity), all the while factoring in the total values of its debt and equity dollars. This figure, which we find to be about 7.34%, is American Axle's opportunity cost of capital. This is the minimum acceptable rate of return AAM should accept on an investment, and it is the rate by which we discount future cash flows to ascertain that a certain project has a positive net present value. By using the NPV formula to compare and contrast certain projects, we can decide upon the best possible investment to foster long-term growth for American Axle.