Hey, Let's Buy Something Big

With euro zone growth in the doldrums, companies look to M&A to bulk up

Executives of La Caixa, a Spanish savings bank, weren't shy about their approaches to Endesa (ELE ), Spain's largest power utility. At a meeting in June, investment bankers from La Caixa told Manuel Pizarro, Endesa's chairman, that he ought to consider combining his company with Gas Natural SDG, a smaller gas utility that La Caixa controlled. No go. They repeated their entreaties at a later meeting at the opera. Still no dice. Finally, on Sept. 5, Gas Natural launched a $51.7 billion hostile bid for Endesa -- while the ever-polite La Caixa chief invited Pizarro to dinner for a little chat. The astonished Pizarro declined, but the offer -- the biggest this year -- is still outstanding, and it's catching the attention of investors across Europe.

Persistent, cash-rich, and hungry, Europe's executives want to do deals. Big, big deals. Much of the euro zone is in the doldrums, stories of organic growth are hard to come by, and corporate profit growth is losing steam. So executives like those at Gas Natural are looking to fatten profit margins through economies of scale. Earnings for Europe Inc. are likely to rise 8% to 10% this year, according to an estimate by Dresdner Kleinwort Wasserstein covering 15 countries. That's down from a gain of 22% last year -- and nearly 40% in 2003. "It's defensive," says Karen Olney, an equity strategist at DKW in London. "In this environment, a company is much better off taking out a competitor than building a new plant. If growth does slow a bit, they can cut costs."

The quest for growth has pushed the level of mergers-and-acquisitions activity in Europe above that in the U.S. for the first time since the start of 2003. In the third quarter alone, $317.2 billion in European M&A deals were announced, according to London researcher Dealogic. That's well above the $210.9 billion seen in the U.S. -- and the highest level since the second quarter of 2000. In that M&A boom, European telecom companies used inflated stock to make one deal after another. But the spree ended in the early 2000s when the Net bubble deflated.

Top dealmakers say the latest burst of activity is not a reflection of any irrational exuberance. Instead, it represents an earnest quest for new sources of growth. What's more, Europe is ripe for deals after a long drought. "There are still a great number of consolidation plays in the European region, whereas America is much more developed," says Henry Gibbon, a director at research consultant Thomson Financial in London.

At the same time, investors are crying out for companies to put their mounting cash piles to work. European companies, excluding financial- services firms, have some $320 billion in free cash flow, an increase of 18% from last year, according to Lehman Brothers Inc. The $17.8 billion July acquisition of British drinks company Allied Domecq by Paris-based Pernod Ricard and Fortune Brands (FO ) was financed partly with cash. The deal created the world's second-largest wine and spirits company, behind Britain's Diageo PLC (DEO ). The acquisition seemed like a natural step, with Allied brands such as Stolichnaya vodka and Courvoisier cognac enhancing Pernod Ricard's upscale portfolio. "In that industry there are synergies in brand development and distribution," says Oliver Ellingham, head of European M&A outside France at BNP Paribas in London. "It was symptomatic of the reawakening of the next wave of consolidation."


The M&A wave has cut across a range of industries and countries -- and made investment bankers the toast of the town. Among the biggest deals are the $18.6 billion purchase of Germany's HVB Group by Milan-based bank UniCredit. Then there's the $13.9 billion acquisition of Belgian energy group Electrabel by French utility Suez (SZE ). Or France Telecom's (FTE ) $10.8 billion bid for Spanish mobile phone group Amena. With so many deals in so many areas, City of London insiders say activity could stay strong through at least the end of 2006. One encouraging sign: According to Dealogic, 74% of the mergers have been financed with cash only. That means there will be lots of room for stock-based transactions when the cash is exhausted.

Britain, one of Europe's healthiest economies, is seeing a lot of this activity. Germany's Deutsche Post recently made a $6.5 billion bid for British logistics firm Exel PLC. And Aegis Group PLC, the world's last big independent media buying and planning group, is being stalked by a number of media players, including France's Publicis Groupe (PUB ). Meanwhile, French industrial giant Saint-Gobain recently approached BPB PLC, a British manufacturer of building materials, with a $6.5 billion offer.

A jump in interest rates or a massive shock such as a terrorist attack could put the freeze on dealmaking. Barring that, however, watch for more M&A activity in industries with a glut of competitors, such as finance, construction, real estate, and media. "There's a clear search for growth," says Paulo Pereira, managing director and head of European M&A at Morgan Stanley (MWD ) in London. "Some of that growth will be organic, but increasingly, CEOs are convinced that won't be sufficient." Chief executives will be seeking out targets -- at the opera as well as across the deal table.

By Laura Cohn, with Stanley Reed, in London

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