M&A: The Big Thaw?

The financial crisis put mergers on ice, but there are signs the deals are starting again. This time corporate buyers are calling the shots

Even as credit markets and the economy remain rocky, Wall Street's dealmakers are slowly getting busier. It's hardly the mergers-and-acquisitions fever of a year ago, but M&A activity is still giving a lift to stocks.

On May 15, CBS (CBS) said it would buy CNET Networks (CNET) for $1.8 billion, agreeing to pay 45% above CNET shares' previous closing price. Financier Carl Icahn is trying to force Yahoo! (YHOO) to accept Microsoft's (MSFT) rejected $47.5 billion buyout offer. And Hewlett-Packard (HPQ) announced on May 13 it would buy Electronic Data Systems (EDS) for $13.9 billion (BusinessWeek, 5/15/08).

So far this year, the total value of announced M&A deals is $430.4 billion in the U.S. and $1.9 trillion globally, according to Dealogic. That's down 39% in the U.S. and 34% worldwide from this time a year ago.

The Roughest Patch Is Over

Bankers and experts said the shrinking of available credit has acted as a brake on the M&A market. The credit crisis began last summer, but it really started to slow dealmaking in the fall. The M&A market hit its roughest patch in February and March, when investment bank Bear Stearns (BSC) collapsed.

Since then, worries have eased a bit. The value of M&A deals in April exceeded the previous two months combined, and halfway through the month, May's total already exceeds all dealmaking in March, Dealogic says.

"Now that things have settled down, people are getting out there again," says Scott Willis, a lawyer specializing in M&A at the law firm Fishman Haygood Phelps Walmsley Willis & Swanson.

But not every potential buyer is out shopping.

During M&A's heyday last summer, the stock market would often get a boost each Monday, when private equity firms typically unveiled billion-dollar buyout deals cooked up over the weekend. Often these deals priced their target companies' shares at huge premiums.

Private equity firms used leveraged buyouts, or LBOs—relying on a large amount of debt—to buy up these public companies and take them private. After the credit market disruptions began last year, many big deals fell apart as banks refused to lend out money.

$400 Billion to Spend

Those LBO buyers remain quiet, even as they sit on lots of capital. Goldman Sachs (GS) estimates private equity firms have about $400 billion in dry powder to spend on potential buyouts.

But Tom Lister, co-managing partner of Permira, a private equity firm that's currently managing $17 billion in investment funds, says it's unrealistic to expect the loan market for LBOs to bounce back soon: "The wheels of liquidity did grind to a halt, and it will take time for the credit markets to sort themselves out."

So who's doing the dealmaking if not private equity? Corporate buyers—as the Microsoft, CBS, and Hewlett-Packard offers demonstrate—have much of the M&A field to themselves.

"Although credit markets have improved, risk tolerance is low" for lenders, says Howard Lanser, head of new business development at banking firm R.W. Baird. Lenders are funding deals only if buyers are healthy companies with strong balance sheets, he says. Deals also include tighter lending terms, requiring more collateral, says Willis, of Fishman Haygood's. Also, because many deals "aren't getting over the finish line," parties aren't agreeing to hefty termination fees if a deal fails.

Hungry In Spite the Snags

"Deals take longer to get done, but they are getting done," Willis says. Corporate management still is hungry to make deals despite the difficulties.

Companies are eager to make offers while there is less competition from private equity buyers, Lanser says. Buyers also want to use acquisitions to position their firms for when the economy recovers, he says. Sellers are receptive to offers at a time when stock prices are down and a tough economy makes it harder to compete. "It makes sense for both parties," he says.

Willis, based in New Orleans, handles a lot of deals in the booming energy industry. He says many oil and gas firms want to get much bigger to handle the skyrocketing costs of oil and gas exploration and drilling. "Even though you're making $120 a barrel [on oil], your cost of producing the oil is going up," Willis says.

Much depends on whether banks and other lenders can shake off the 10-month-old financial crisis. If the credit crunch continues to ease, more and more deals will get done. Stock prices will be buoyed by M&A speculation, and private equity buyers might even find ways to get financing. But if lenders get spooked again, even healthy companies with strong balance sheets may find it hard to complete deals. And that could put a quick end to the fledgling M&A revival.

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