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UPDATE 3-DaimlerChrysler sells aero engine unit to KKR

(Adds econ ministry, Daimler advisor)

By Madeline Chambers

FRANKFURT, Nov 21 (Reuters) - Germany's DaimlerChrysler said on Friday it had sold its MTU aero engine business to U.S. private equity firm Kohlberg Kravis Roberts & Co (KKR), the carmaker's latest step to shed non-core assets.

Daimler declined to give a price for the sale, which Reuters reported last week, but sources close to the transaction have said Daimler would sell the unit for 1.45 billion euros ($1.7 billion). The sale, to be completed by the end of December, will give a welcome boost to the bottom line of the world's fifth-biggest carmaker as it struggles to return its U.S. Chrysler unit to long-term profits.

"It is right for Daimler to sell what they are not actively managing and what they don't want to invest in," said Juergen Pieper, an analyst at Metzler Bank in Frankfurt, noting, however, that this was not the best time to get a high price.

At 1329 GMT, DaimlerChrysler shares were down 0.1 percent, in line with its European peers .

Five-year credit default swaps on Daimler's bonds traded three basis points wider at 110 basis points. That means it costs 110,000 euros annually to insure 10 million euros of its debt for five years. Traders said the sale was priced in.

MTU, which makes turbines and other parts for several engine types, is one of the last non-core assets DaimlerChrysler has to sell. The business has over 8,300 employees globally and had sales of about 2.2 billion euros last year.

Daimler said MTU would continue its current project and cooperation agreements, notably its strategic alliance with U.S. aero engine maker Pratt & Whitney .

"The sale to KKR gives MTU Aero Engines new possibilities for the future," said DaimlerChrysler in a statement.

GOVERNMENT MOAN

Although long flagged, the sale to a U.S. firm is surprising, given that the deal was delayed by German government concerns about a foreign takeover of its defence businesses.

Germany's economy ministry, keen to keep jobs and technology in the country, said it regretted Daimler's decision to sell MTU and it expected KKR to keep the business as a whole and possibly list it on the stock market later.

"Research and development efforts as well as all planned and necessary investments must go ahead without hindrance to strengthen Germany as a centre for technology," said the ministry in a statement.

KKR said it planned no major job cuts or restructuring.

"I think that all parties see that we are an investor with a long term strategy and want to keep MTU as a German company," said Reinhard Gorenflos of KKR.

Daimler is the second European carmaker this year to sell its aero unit to a private equity firm.

In July Italy's Fiat agreed to sell its Fiat Avio aviation unit to The Carlyle Group and state-controlled defence firm Finmeccanica in a bid to cut its heavy debt load.

The Daimler deal brings an end to a months-long bidding process in which Doughty Hanson and other private equity houses including The Blackstone Group and Carlyle were involved.

In the last few years Daimler has sold its T-Systems software unit to Deutsche Telekom and its Temic electronics business to Continental .

Investors expect Daimler to eventually sell its 33 percent stake in aerospace group EADS , although last year the company said it would not do so for three to five years.

A roughly two billion euro write-down for its EADS stake nudged Daimler to a net loss in the third quarter, and some analysts doubt it will meet its full-year target of a five billion euro operating profit, against 5.8 billion in 2002.

Credit Suisse First Boston, Commerzbank and JP Morgan arranged the financing, while KKR was advised by Morgan Stanley and UBS. JP Morgan advised Daimler. (Additional reporting by David Wigan and Siobhan Kennedy in London, Hans Nagl in Munich and Nick Antonovics in Berlin)