With merger mania a global phenomenon in 2006, average investors are wondering which companies might be snapped up next.
Giant companies in a variety of industries have been seeking quick growth via acquisitions.
Meanwhile, private-equity groups have pounced on companies. Huge war chests from pension funds and wealthy individual contributors enable them to seek out bigger and bigger targets.
In real estate, Blackstone Group LP struck a deal to purchase Equity Office Properties Trust for $36 billion. In health care, Kohlberg Kravis Roberts is among firms that engineered a $32.9 billion leveraged buyout deal for HCA Inc.
Low interest rates give buyers access to inexpensive credit, while a strong stock market means money derived from profit-taking is looking to land. More ominous is the fact that junk bond financing has made its way into many deals and could become a problem later.
"Many industries in which mergers are occurring are undergoing tremendous change, among them the consolidating financial-services industry," said Martin Sikora, editor of Mergers & Acquisitions magazine in Philadelphia. "In the technology industry, a process or invention goes from leading edge to commodity in a couple of years, so the company runs out of growth and sells."
During the first 11 months of 2006, there were 707 deals worth a combined $844.3 billion, according to Thomson Financial, compared with 602 deals valued at $574.6 billion in the same period last year. There is every indication that this trend will continue, because so many industries are in flux.
"Private-equity acquisitions and foreign buying represent over 40 percent of this year's activity in mergers and acquisitions," said Richard Peterson, senior researcher in capital markets at Thomson Financial in New York.
Prospects for 2007 depend on the degree to which these areas remain vigorous, Peterson said. Many experts see positive signs.
"Mergers and acquisitions will remain quite robust, with activity in energy and in commodities," said Vadim Zlotnikov, chief equity strategist for Sanford Bernstein in New York. "We've already seen it in financials because the growth prospects there have slowed."
Here is Zlotnikov's advice to investors:
-- Deals using stock rather than cash generally are bad for shareholders of acquiring firms. That's because when you use cash, you get a better price from the company that is selling, and you don't dilute existing shareholders' holdings.
-- The bigger the acquisition relative to the size of the acquirer, the worse it is. So if IBM Corp. buys a company with $50 million in capitalization, it's OK, but buying one that is $20 billion may be too much to handle.
-- The further the acquired business is from the acquirer's core business, the worse it is. So if IBM makes a mainframe software acquisition, that's fine. But if it makes an acquisition in pipelines, that's bad. He considers the Time Warner and AOL deal an example of an odd-couple merger that was doomed from the start.
"If you own a company that's being acquired, celebrate, and if you own the acquirer, listen," Zlotnikov said. "If it claims that the synergies will take two years or more to be realized, run now."
Playing mergers and acquisitions once was considered purely a fool's game, but it has gained credibility of late. Many mutual funds have benefited from corporate takeovers this year, although premiums in some of the deals have been in the single-digit percentage range from the previous closing price.
"Mergers and acquisitions can be wild speculation, but these days they are a strategic policy for companies seeking growth," said Barry James, portfolio manager of James Small Cap Fund, which is up 12 percent this year in part because five of its holdings have been acquired in recent months. "They're having trouble generating growth within the company, with so much being done through cost controls rather than increasing revenues."
Stock price obviously plays a major role in determining a merger or acquisition target.
Lately the prices of even some giant companies have dropped to a point where Henry McVey, chief U.S. investment strategist with Morgan Stanley in New York, considers them well worth watching. One of the firms that had been on his list, Phelps Dodge Corp., recently agreed to be acquired by Freeport McMoRan Copper and Gold Inc.
"Whether these stocks become acquisition candidates or not, we do not know," McVey wrote in a research report. "However, they appear extremely cheap on our valuation framework and, as such, are worthy of investor attention if current earnings projections are even in the ballpark."
Among such firms with bargain-priced stocks, McVey said, are:
KB Home, Tupperware Brands Corp., Transocean Inc., ConocoPhillips, Apache Corp., Allstate Corp., WellPoint Inc., Pfizer Inc., Countrywide Financial Corp., Coventry Health Care Inc., Capital One Financial Corp., TXU Corp., Bank of America Corp. and Wachovia Corp.
"I'm not sure mergers have been the biggest focus of the stock market this year, but they've certainly helped," said Steven Goldman, chief market strategist with Weeden & Co. in Greenwich, Conn. "It is being driven by the increased opportunity to get returns, with lower interest rates also helping out."
Andrew Leckey is a Tribune Media Services columnist.