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What's Behind The Buyout Binge


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The mergers-and-acquisitions boom is nearing uncharted territory. On Nov. 19 and 20, companies and buyout firms announced 40 deals worth $76 billion. Now many bankers are predicting that, just as the Dow Jones industrial average recently punched through its record level set in 2000, M&A, too, will eclipse its 2000 record. Already, $3.2 trillion of deals have been announced this year, vs. $3.4 trillion in 2000, according to Thomson Financial Corp. (TOC). "We've basically grown into the merger marketplace that we saw in 1999 or 2000," says Paul J. Taubman, global head of M&A at Morgan Stanley (MS). "We expect to see further highs in deal activity for some time to come."

But what's driving this year's merger mania is quite different from what prompted AOL to plop down $182 billion for Time Warner Inc. (TWX) in 2000. That boom was fueled by inflated stock prices in an overheated equities market that made companies feel like they were playing with funny money. This time the drivers are low interest rates, low valuations, and robust debt markets. One telling difference: 60% of this year's deals have been paid for in cash, vs. 29% in 2000, estimates Thomson.

The biggest change, though, is the unprecedented heft of private equity firms. Morgan Stanley estimates that buyout shops are now armed with at least $2 trillion in purchasing power, far more than ever before. The number of public-to-private deals in 2006 is set to nearly double the number in 2000, to 205, while their value has soared more than tenfold, says Taubman.

Yet there's still plenty of room for the boom to continue. Many companies still look cheap. Those that make up the Standard & Poor's 500-stock index are trading at only 17 times their earnings, vs. 26.4 times in 2000. What's more, acquirers are paying smaller premiums than they did six years ago. That means they can probably afford to pony up for prime targets in their sights. In 2000, buyers of companies worth $10 billion or more paid an average premium of 30% above where companies' stock prices were trading the day before their deal was announced, according to Thomson. Buyers nowadays are shelling out 25% more.

For now, no one is predicting that there will be any starry-eyed megamergers, à la AOL-Time Warner. "Managements and boards are tough-minded today about what assets are worth," says Jack Levy, co-chair of global mergers and acquisitions at Goldman, Sachs & Co. (GS) Instead, look for more tactical deals that expand companies' existing businesses, says Paul G. Parker, head of M&A in the U.S. for Lehman Brothers Inc. (LEH). Already, the number of deals in excess of $10 billion is about the same as it was in 2000, according to Thomson.

Changing political winds should also send mergers sailing forward. A Democrat-led Congress might spark closer scrutinizing of potential megamergers on antitrust concerns. But that would just open the door for private-equity firms looking to expand their portfolios. "It always used to be that if a large corporation wanted to buy a company, it would prevail over a private-equity firm," says Parker, in part because companies could afford to pay higher price tags than buyout shops. No more.

By Emily Thornton


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