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Buffett Seen Lured by Black & Decker Takeover: Real M&A

Warren Buffett’s pursuit of bigger acquisitions makes companies from Stanley Black & Decker Inc. (SWK) to Parker Hannifin Corp. the most attractive takeover targets, according to data compiled by Bloomberg.

Berkshire (BRK/A) Hathaway Inc.’s 81-year-old chairman and chief executive officer said in his annual letter to shareholders on Feb. 25 that he was “on the prowl” for large deals after spending more than $35 billion on companies including Lubrizol Corp. and Burlington Northern Santa Fe in the past two years.

With Berkshire generating $1 billion a month in free cash flow, the world’s most successful investor is eyeing takeovers as near-zero percent interest rates limit returns in fixed-income markets and the Omaha, Nebraska-based company’s cash hoard increased to $37.3 billion. Stanley Black & Decker, the world’s biggest maker of hand tools, and Parker Hannifin, which controls more than half the market for fluid-powered valves, are among 21 U.S. companies that meet the acquisition criteria in Berkshire’s annual report, data compiled by Bloomberg show.

Stanley Black & Decker and Parker Hannifin “seem very plausible acquisition candidates for Buffett,” said Timothy Ghriskey, who oversees $2 billion as chief investment officer of Solaris Group in Bedford Hills, New York. “We would expect him to make a larger deal. He’s a man of his word.”

Buffett didn’t respond to an e-mailed request for comment sent to his assistant, Carrie Kizer. In his shareholder letter, the billionaire investor said he wants to “purchase some large operations that will give us a further boost.”

Fortune 500

“We now have eight subsidiaries that would each be included in the Fortune 500 were they stand-alone companies,” he wrote, referring to an annual list ranking the 500 biggest U.S. companies by revenue. “That leaves only 492 to go.”

In each of the past two years, Buffett has used Berkshire’s cash pile to make at least one multi-billion dollar acquisition.

He bought Wickliffe, Ohio-based Lubrizol, the world’s largest producer of lubricant additives, in September for about $9 billion after saying in last year’s letter that “our elephant gun has been reloaded, and my trigger finger is itchy.” In February 2010, Buffett spent $26.5 billion in cash and stock on Fort Worth, Texas-based Burlington Northern railroad in Berkshire’s largest acquisition.

Buffett has used his annual reports to promote his company as an acquirer. Berkshire can act quickly on a deal, provide capital to target companies and allow managers the freedom to supervise the businesses they built, he has said.

Historical Standards

He usually prefers “simple” businesses with pretax profit exceeding $75 million, “consistent” earning power and “good” returns on equity while employing little or no debt, according to his annual report. He has shifted his takeover strategy as Berkshire has grown to focus on “capital intensive businesses” such as power producers and railroads, which require consistent investment in infrastructure and equipment.

Buffett is focusing on acquisitions and buying publicly traded stocks because current yields on bonds, he said, aren’t enough to compensate for the risk of inflation.

There are 21 companies that ranked among the top 500 in the U.S. by revenue with equity values between $5 billion and $25 billion; averaged an annual return on invested capital in the past 10 years that exceeded the median company in the Standard & Poor’s 500 Index (SPX); had capital expenses accounting for at least 10 percent of net fixed assets; generated profit growth in the past five years that ranked in the top 50 percent; and sold for a lower price-earnings ratio over that span than the S&P 500 median, according to data compiled by Bloomberg.

Relative Value

So-called value investors such as Buffett also purchase companies when their stock prices are low by historical standards when compared with earnings.

Using acquisitions, Buffett has built Berkshire from a failing textile maker into a $199 billion company with more than 70 units that produce energy and chocolate, operate planes and trains, and insure against car wrecks and earthquakes.

“Buffett is unique,” Matt McCormick, who helps oversee $5.1 billion at Bahl & Gaynor Inc. in Cincinnati, said in a telephone interview. “He’s going to get paid no matter what.”

Stanley Black & Decker, valued at $12.8 billion, has traded at an average of 14.1 times profit in the past five years versus 16.3 times for the median S&P 500 company, according to data compiled by Bloomberg. While the toolmaker has surged 57 percent from an almost two-year low in September, it was valued at 13.4 times earnings yesterday.

The New Britain, Connecticut-based company, which controls almost half of the $17 billion market for hand tools, has exceeded analysts’ per-share profit estimates for six straight years, data compiled by Bloomberg show.

Hammers, Nail Guns

Revenue this year is projected to surpass $11 billion and rise to a record. It also returned an average of 13.3 percent on its invested capital annually over the past 10 years, about a fifth more than the median S&P 500 company, the data show.

That could make Stanley Black & Decker attractive to Buffett because of his view that the U.S. housing industry will regain its strength and support economic growth after sparking the worst recession since the Great Depression, according to Keith Wirtz, who oversees $14.6 billion as chief investment officer for Fifth Third Asset Management in Cincinnati.

While Buffett said in this year’s letter that he was “dead wrong” with his prediction in early 2011 that a recovery in housing would begin within a year or so, he projected that the “steady and substantial comeback” in the U.S. economy will eventually lead to an increase in demand for homes.

‘Historic Correction’

Last month, Americans signed twice as many contracts to buy previously owned homes than economists forecast, an index from the National Association of Realtors showed yesterday. Existing homes made up more than 90 percent of the market last year.

“Stanley Black & Decker should be at the top of the list of potential Buffett targets,” Wirtz said in a telephone interview. “It’s well-managed, it’s got great fundamentals and great forward growth.”

Buffett is “looking at the residential real estate market, which has gone through a historic correction. That’s why he’s looking at housing,” he said.

Kate Vanek, a spokeswoman at Stanley Black & Decker, didn’t return a telephone call or an e-mail seeking comment on whether the company has been approached about an acquisition or would consider a potential sale to Berkshire.

Parker Hannifin, which makes hydraulic valves and pumps used in construction, farming and aerospace, may become a target as Buffett looks to take advantage of a resurgence in manufacturing, said Todd Lowenstein, who helps oversee about $17 billion for Highmark Capital Management Inc. in Los Angeles.

Bargain Hunting

The Cleveland-based company, which has a market value of $13.6 billion after increasing almost 20 percent this year, sells for 12.7 times analysts’ projected per-share earnings for the year ending in June, data compiled by Bloomberg show.

That’s 20 percent less than its average of 15.8 times reported profit in the past five years.

Parker Hannifin’s revenue, which analysts anticipate will climb to a record $13 billion this fiscal year, has decreased just twice since 1992, according to data compiled by Bloomberg.

The company accounted for 52 percent of sales in the $18 billion fluid-powered valve industry last year, more than twice as much as its closest competitor, the data show.

Aidan Gormley, a spokesman at Parker Hannifin (PH), declined to comment on whether it had been approached about an acquisition or would consider a potential sale to Berkshire.

“He’s looking to buy a high-quality, long-term asset at a bargain price,” Lowenstein said in a telephone interview. Parker Hannifin is a “great barometer of economic activity because they are in so many pieces of the industrial land. That’s a doable transaction for him,” he said.

List of U.S. Companies:
Ranked in Highest 500 by Revenue
Market Capitalization from $5 Billion to $25 Billion
10-Year Return on Invested Capital > S&P 500 Median Value
Capital Expenditures / Net Fixed Assets > 10%
5-Year Net Income Growth in Highest 50%
5-Year P/E Ratio < S&P 500 Median Company Value
*Excludes Banks, Technology and Biotechnology Companies

Advance Auto Parts Inc.
AutoZone Inc.
Cooper Industries Plc
Cummins Inc.
DaVita Inc.
Discover Financial Services
Dish Network Corp.
Eastman Chemical Co.
Family Dollar Stores Inc.
Flowserve Corp.
Forest Laboratories Inc.
Goodrich Corp.
Hormel Foods Corp.
Humana Inc.
KBR Inc.
Parker Hannifin Corp.
PPG Industries Inc.
Ross Stores Inc.
Sara Lee Corp.
Stanley Black & Decker Inc.
VF Corp.

To contact the reporters on this story: Rita Nazareth in New York at rnazareth@bloomberg.net; Charles Mead in New York at cmead11@bloomberg.net.

To contact the editors responsible for this story: Daniel Hauck at dhauck1@bloomberg.net; Chris Nagi at chrisnagi@bloomberg.net.

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