New York Times
POSTED: 1:30 a.m. HST, Feb 15, 2013
The mega-merger is back.
For the corporate takeover business, the last half-decade was a fallow period. Wall Street deal-makers and chief executives, brought low by the global financial crisis, lacked the confidence to strike the audacious multibillion-dollar acquisitions that had defined previous market booms.
Cycles, however, turn, and in the opening weeks of 2013, merger activity has suddenly roared back to life. On Thursday, Berkshire Hathaway, the conglomerate run by Warren E. Buffett, said it had teamed up with Brazilian investors to buy the ketchup maker H.J. Heinz for about $23 billion. And American Airlines and US Airways agreed to merge in a deal valued at $11 billion.
Those transactions come a week after a planned $24 billion buyout of the computer company Dell by its founder, Michael S. Dell, and private equity backers. And Liberty Global, the company controlled by the billionaire media magnate John C. Malone, struck a $16 billion deal to buy the British cable business Virgin Media.
"Since the crisis, one by one, the stars came into alignment, and it was only a matter of time before you had a week like we just had," said James B. Lee Jr., the vice chairman of JPMorgan Chase.
Still, bankers and lawyers remain circumspect, warning that it is still too early to declare a mergers-and-acquisitions boom like those during the junk bond craze of 1989, the dot-com bubble of 1999 and the leveraged buyout bonanza of 2007. They also say that it is important to pay heed to the excesses that developed during these moments of merger mania, which all ended badly.
A confluence of factors has created a suddenly frothy market and driven the recent wave of deals. Most visibly, the stock market has been on a tear, with the Standard & Poor's 500-stock index this week briefly hitting its highest levels since November 2007. Higher share prices have buoyed the confidence of chief executives, who now, instead of retrenching, are looking for ways to expand their businesses.
A number of clouds that hovered over the markets last year have also been removed, eliminating the uncertainty that hampered deal-making.
Mergers and acquisitions activity in 2012 remained tepid as companies took a wait-and-see approach over the outcome of the presidential election and negotiations over the fiscal cliff. The problems in Europe, which began in earnest in 2011, shut down a lot of potential transactions, but the region has since stabilized.
"When we talk to our corporate clients as well as the bankers, we keep hearing them talk about increased confidence," said John A. Bick, a partner at the law firm Davis Polk & Wardwell, who advised Heinz on its acquisition by Buffett and his partners.
Bick said that mega-mergers had a psychological component, meaning that once transactions start happening, chief executives do not want to be left behind. "In the same way that success breeds success, deals breed more deals," he said.
A central reason for the return of big transactions is the mountain of cash on corporate balance sheets. After the financial crisis, companies hunkered down, laying off employees and cutting costs. As a result, they generated savings.
Today, corporations in the S&P 500 are sitting on more than $1 trillion in cash. With interest rates near zero, that money is earning very little in bank accounts, so executives are looking to put it to work by acquiring businesses.
The private equity deal-making machine is also revving up again. The world's largest buyout firms have hundreds of billions of dollars of "dry powder" — money allotted to deals in Wall Street parlance — and they are on the hunt.
The proposed leveraged buyout of Dell, led by Michael Dell and the investment firm Silver Lake Partners, was the largest private equity transaction since July 2007, when the Blackstone Group acquired the hotel chain Hilton Worldwide for $26 billion just as the credit markets were seizing up.
But perhaps the single biggest factor driving the return of corporate takeovers is the banking system's renewed health. Corporations often rely on bank loans for financing acquisitions, and the ability of private equity firms to strike multibillion-dollar transactions depends on the willingness of banks to lend them money.
For years, banks, saddled by the toxic mortgage assets weighing on their balance sheets, turned off the lending spigot. But with the housing crisis in the rearview mirror and economic conditions slowly improving, banks are again lining up to provide corporate loans at record-low interest rates to finance acquisitions.
The banks, of course, are major beneficiaries of megadeals, earning big fees from both advising on the transactions and lending money to finance them.
Mergers and acquisitions in the U.S. total $158.7 billion so far this year, according to Thomson Reuters data, more than double the amount in the same period last year.
JPMorgan, for example, has benefited from the surge, advising on four big deals in recent weeks, including the Dell bid and Comcast's $16.7 billion offer for the rest of NBCUniversal that it did not already own.
Buffett, in a television interview last month, declared that the banks had repaired their businesses and no longer posed a threat to the economy.
"The capital ratios are huge, the excesses on the asset aside have been largely cleared out," said Buffett, whose acquisition of Heinz will be his second-largest acquisition, behind his $35.9 billion purchase of a majority stake in the railroad company Burlington Northern Santa Fe in 2009.
While Wall Street has an air of giddiness over the year's start, most deal makers temper their comments about the current environment with warnings about undisciplined behavior like overpaying for deals and borrowing too much to pay for them.
Though private equity firms were battered by the financial crisis, they made it through the downturn on relatively solid ground. Many of their megadeals, like Hilton, looked destined for bankruptcy after the markets collapsed, but they have since recovered.
The deals have benefited from an improving economy, as well as robust lending markets that allowed companies to push back the large amounts of debt that were to have come due in the next few years.
But there are still plenty of cautionary tales about the consequences of overpriced, overleveraged takeovers.
Consider Energy Future Holdings, the biggest private equity deal in history. Struck at the peak of the merger boom in October 2007, the company has suffered from low natural gas prices and too much debt, and could be forced to restructure this year. Its owners, a group led by Kohlberg Kravis Roberts and TPG, are likely to lose billions.
Even Buffett made a mistake on Energy Future Holdings, having invested $2 billion in the company's bonds. He admitted to shareholders last year that the investment was a blunder and would most likely be wiped out.
"In tennis parlance," Buffett wrote, "this was a major unforced error."