Your Bets, Please: Takeover Wheel Spins
By Gregory Zuckman
The Wall Street Journal
Wednesday, November 22, 2006
That's the question on the lips of investors, traders and
investment bankers on the heels of a deluge of mergers and
Some say consumer-oriented stocks, health-care providers,
gaming and tech companies could become acquisition targets
in the months ahead. Some point to
Hilton Hotels, and home builders such as
Ryland Group and
D.R. Horton as possible targets. Private-equity firms
are circling home-service company
ServiceMaster, say people familiar with the matter.
Others are focusing on companies with steady cash flows and
a large percentage of shares owned by company executives, or
companies run by older executives who may be willing to sell
There has been so much deal activity this year that it looks
like anyone could be fair game. Targets have included
companies with stable cash flows but poor growth prospects,
even in sectors that haven't seen many mergers in the past.
"Deals tend to feed on themselves," says Sam Schwartz, a
managing director at Credit Suisse. "Financial sponsors who
have purchased companies [in leveraged buyouts] soon are
going to look for exits, through initial public offerings of
stock or mergers and acquisitions, as long as the financing
market remains robust."
But investors shouldn't get carried away betting on possible
takeovers. Not only are they tough to predict, these deals
also are somewhat less lucrative than they once were. The
average premium paid over market prices for shares of
companies subject to an acquisition bid this year is 17%,
down from 25% in 2000, according to Thomson Financial.
Some analysts say the acquisitions are a sign that stock
prices remain reasonably priced, despite the recent run-up
in the market that has pushed stock indexes to new highs.
Some short sellers -- investors who bet on stock-price
declines -- have become cautious. They are reluctant to
establish big positions against even stocks with weak
outlooks, worried that any wager against a company will turn
into a loser on word of a lucrative deal. This wariness is
adding to the market's upward momentum.
Mostly, all the wheeling and dealing stems from lots of
money sloshing around the global markets, as interest rates
remain low. Investors are shoveling money at private-equity
firms, which buy public companies or businesses with an eye
toward reselling them later at a profit, and at high-yield
but risky loans and junk bonds backing acquisitions. That
suggests many deals are financial bets, not strategic
business moves, perhaps reducing their chance for success.
The bankers who say well-known, consumer-oriented companies
and some real-estate investment trusts could see more offers
note that some of these stocks have been weak amid worries
about how troubles in the housing market will affect various
companies. Some private-equity specialists are focusing on
companies with strong brand names, steady cash flows and
valuable real estate.
Amid all the activity, the total dollar value of takeover
offers by U.S. companies is down 1% so far this year
compared with the same period last year, according to
Richard Peterson, senior researcher at Thomson Financial.
Meanwhile, the value of leveraged buyouts -- deals by
private-equity firms financed by debt backed by the target's
assets and repaid with its cash flow -- has nearly tripled.
More than 40% of the $1.28 trillion of announced U.S.
mergers this year has come from private-equity firms or
foreign buyers, up from less than 24% last year, Thomson
says. Five of the six largest U.S. acquisitions unveiled so
far this year were by leveraged-buyout firms.
Some companies once considered too big to become
private-equity prey now are seen as possibilities, as
private-equity coffers grow. Among them: Sprint, whose
shares have dropped almost 12% in the past year but still
has a market value of $58 billon, as well as Hilton and
Avis Budget Group Inc.
Their stock prices have climbed in recent months. Sprint
shares are up more than 25% since hitting a 52-week low in
late August. Hilton has jumped more than 33% in three
months, giving it a market value of almost $13 billion. Avis
Budget, which hit a 52-week low in mid-August, is up about
19% since then, for a market value of just over $2 billion.
A report this month from analysts at Morgan Stanley ranked
Lennar, Ryland and D.R. Horton atop its list of
leveraged-buyout candidates, based on various metrics such
as volatility of free-cash flow.
Home builders have grown by buying smaller competitors in
recent years, but have generally shied away from big
acquisitions. Although the sector's volatile cash flows can
dissuade private-equity firms, some analysts say that as
housing slows and these companies do fewer new projects,
they will generate more cash flow that might be used to
repay debt in a leveraged buyout.
Spokesmen for Sprint and Hilton wouldn't comment.
Representatives for Hilton, Ryland, Lennar and D.R. Horton
couldn't be reached.
It had been thought that the gambling sector would be immune
from the LBO wave, in part because it can be a challenge to
obtain a gaming license. Last month's proposed purchase by
Texas Pacific Group and Apollo Management of Harrah's
Entertainment for about $15 billion suggests the challenges
can be surmounted. Casino companies sometimes own valuable
real estate that can be used as collateral to raise debt for
a leveraged buyout, bankers note.
Bankers say there have been takeover talks involving
health-care companies, which are seeing lower growth rates
but still churn out cash flow that can be used in a deal
financed by heavy debt. Some investors also expect deals in
the oil patch, where companies are sitting on loads of cash
but shares have slipped as energy prices have fallen. Nabors
Industries, which has $9.8 billion market value, has been
mentioned as a possible target. A spokesman declined to
Write to Gregory