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Apollo-Cooper Update: What One Stock Analyst is Seeing

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Cleveland’s KeyBanc Capital Markets, in its monthly tire industry analysis, maintained its "hold" rating on Cooper Tire & Rubber Co. shares, based on a number of points.

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“Cooper could move toward the $20 level if the merger (Apollo Tyres’ proposed acquisition of Cooper) is terminated, which seems more likely with deal financing potentially in jeopardy, driven by Cooper’s inability to report 3Q13 financials on a timely basis as follows:

“CTB’s late afternoon filing on Nov. 12 indicates an inability to file its 3Q13 10-Q with the SEC. Based on our understanding, not providing financials to lenders is a breach of the merger agreement. Additionally, winning the appeal seems somewhat implausible at this stage. Overall, Cooper’s Chinese minority partners have successfully obstructed the company’s operations and visibility into financials with the apparent attempt of breaking up the merger with Apollo.

“Preparing 3Q13 financial statements was a requirement under the acquisition agreement for the lenders to provide the financing necessary to complete a deal. Therefore, this scenario in which Cooper is unable to report valid financials may very likely lead to financing not becoming available and Apollo’s damages being limited to the termination fee. As stated in the proxy, the obligation of lenders to provide debt financing terminates on Dec. 31, 2013, with a 20-day marketing period.

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“We continue to highlight the potential for the stock to trade below the $20 level if the merger agreement were terminated and if takeout speculation were absent. In our view, the lack of control exhibited at the Cooper Chengshan Tire plant may potentially cause other potential acquirers to shy away from Cooper at this time, which should eliminate takeout speculation if the Apollo deal does not occur.

“Should the Apollo deal get terminated and Cooper be considered an independent company once again, investors will likely begin to value the stock based on the 2014 earnings outlook.

“Cooper’s newly revised EBIT forecast was provided, which indicated 2013 EBIT could potentially be as high as $241 million. This estimate is essentially in line with our current $245 million assumption, but potentially optimistic as the company has limited visibility into Cooper Chengshan Tire plant financials. We still hold a downward bias to our near-term current estimates as volume and pricing remains under significant pressure at Cooper based on recent feedback we received from our attendance at SEMA/Global Tire Expo.

“Overall, EBITDA appears to be somewhere in the $360 million-$375 million range for 2013 based on management’s updated outlook. As it relates to 2014, our $387 million EBITDA forecast includes a volume recovery assumption of +2%, driven by our expectation the company will return to semi-normalized production in China if the merger agreement is terminated. However, our channel research indicates Cooper is forecasting flattish production next year, which implies that the company is not internally forecasting a significant volume recovery in 2014 despite very easy comparisons.

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“Embedded within our 2014 outlook are the following assumptions, including: 1) Cooper Chengshan Tire production returning to semi-normal levels and total company volumes increasing by one million shipments year-over-year or 2%; 2) raw material costs remaining stable at current levels, which would result in 5% lower raw material costs in 2014 vs. 2013; and 3) revenue per tire declining by approximately 3% year-over-year, causing a slightly negative price/mix vs. raw material spread in 2014.

“Overall, EBITDA is assumed to grow $10 million in 2014 to $387 million from $377 million in 2013.”

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