Strategy Process Section 090 Blog

Why M&A Is Back, for Now
What's behind the new urge to merge? The November election, for starters
by Ben Steverman
February 22, 2008, 12:01AM EST

Despite a credit crunch and recession worries, the dealmakers have returned to Wall Street.

Their current run includes Microsoft's (MSFT) $44 billion bid for Yahoo! (YHOO). Major U.S. air carriers are reportedly talking about mega-mergers. And a wave of smaller deals has hit the headlines, including Reed Elsevier's (RUK) $4 billion buyout of ChoicePoint (CPS).

So far it's a pale imitation of 2007, when private equity firms used cheap credit to gobble up company after company. That pumped up the stock market in the first half of the year, just before the credit crunch took it down again.

Fears of a Coming Antitrust Crackdown
The credit crisis still drags on, and private equity players sit on the sidelines, unable to obtain financing for billion-dollar deals. So what's behind this encore performance of the M&A boom? And how long can its run last if the economy continues to deteriorate?

One factor is the Presidential election. The next U.S. President will appoint regulators who can decide whether to challenge deals on antitrust grounds. They will determine whether a proposed combination would restrict competition or create a monopoly. Some deals are being rushed to get them approved before President George W. Bush leaves office on Jan. 20, 2009.

Most deals ultimately get approved, but the process can create a headache for CEOs and shareholders. On Feb. 19, the proposed merger between XM Satellite Radio (XMSR) and Sirius Satellite Radio (SIRI) hit its one-year anniversary as the controversial deal still waits for word from the Justice Dept.'s Antitrust Div.

Obama Has Criticized Bush's Antitrust Record
All else being equal, most assume a Democrat in the White House will be more suspicious of proposed mergers. But it's hard to know what the next President will do. Antitrust regulation is the sort of topic that makes voters' eyes glaze over, so it rarely gets attention on the campaign trail.

Senator Barack Obama (D-Ill.) was the only current candidate to respond to a questionnaire from the American Antitrust Institute last year. Obama criticized the Bush Administration for "the weakest record of antitrust enforcement of any administration in the last half century." He pledged to "reinvigorate" enforcement, and cited health care, including the insurance and pharmaceutical industries, as a sector where the lack of competition has raised prices for consumers.

Delta Air Lines (DAL), Northwest Airlines (NWA), Continental Airlines (CAL), and United Airlines (UAUA) are among the carriers said to be discussing mergers. Airline deals have gotten close scrutiny from regulators in the past, and that's likely to happen again. On Feb. 14, Senator Hillary Clinton (D-N.Y.) said the mergers should prompt "a hard look at the potential effects on workers" before they're approved.

Federal Judges Have the Ultimate Say
Antitrust law is full of "squishy language that reasonable people can disagree on," says Robert Lande, a University of Baltimore law professor who co-founded the American Antitrust Institute. While all regulators may worry that a merger would raise prices, Democrats are more likely to consider other factors, such as whether a merger would restrict consumer choices, Lande says. That approach could threaten mergers of media companies, for example, under an Obama or Clinton Administration.

Still, many argue antitrust policy won't change much even if Democrats take the White House. For one thing, political appointees don't make ultimate decisions on mergers—federal judges with lifetime appointments do.

Also, a new Administration may affect "close cases," but there is a consensus on most questions, says antitrust expert Paul Denis, now at the law firm Dechert LLP. As a Justice Dept. lawyer in the early 1990s, he helped draft merger guidelines still in place today. The political parties may be split on many other important issues, but antitrust "is an issue where there is probably more agreement than disagreement," Denis says.

A Leadership Vacuum Could Stall Approvals
The 2008 election does create problems for dealmakers, however, Denis says. The transition to a new administration in 2009, often a chaotic process, could create a leadership vacuum, he says. Under normal circumstances, deals under review can stall for months and months, with the average review taking seven-and-a-half months, Denis says. The change in power in early 2009 could add to delays even if Republicans remain in power. Companies have just a few more months to put together big deals before they run the risk of getting stuck in post-election limbo.

For large, controversial mergers like the airline deals or the possible Microsoft-Yahoo combination, the 2008 election is undoubtedly at least one consideration. But otherwise, M&A experts say, the Presidential election is a sideshow to a number of bigger factors shaping the M&A market in 2008.

First, companies are finding more bargains when they look for acquisition targets. The weak stock market has lowered share prices. And private equity firms aren't around anymore to bid up buyout offers. Before the credit crunch made many leveraged buyout deals impossible, companies "got to the point where they didn't feel like they could compete" with private equity buyers, Denis says.

Foreign Buyers Eye Global Brands
A weak U.S. dollar adds to the advantages for foreign buyers. Strong respective currencies are helping Canadian, Asian, and European firms see lots of good prices in the U.S. stock market. "You can afford some deals that you couldn't afford before," says Stefano Aversa, co-president of AlixPartners, a global consulting firm. The most recent example is Anglo-Dutch firm Reed Elsevier's $4 billion offer for ChoicePoint on Feb. 21.

Buyers from India and China may be especially active in 2008, Aversa says. In the consumer space, foreign buyers may be attracted to global brands with great long-term value, Aversa says. In technology, firms in emerging markets with production capacity may want to buy U.S. tech firms for their respected brands and their access to technology and Western consumers, he says.

It won't just be foreign buyers on the prowl for bargains, says Mike Hogan, managing director at Harris Williams. The weak economy may be prompting more CEOs of all stripes to find ways to expand their companies through acquisitions, he says. With his firm focusing on M&A's "middle market"—companies under $1 billion—Hogan says the buyout market is "still very active."

More Banking Mergers Are Expected
Popular targets of M&A activity are firms in energy, technology, transportation and logistics, and commodities, Hogan says. For smaller firms, antitrust rules aren't much of a worry. However, the election may have an impact: Buyers of family-controlled firms may want to sell before Democrats allow Bush's cuts to capital-gains and estate taxes to expire, he says.

In other sectors, trends are pushing companies toward consolidation, says Mike Moriarty, a partner at A.T. Kearney, a management consulting firm. Banks, for example, will still want to merge to compete with global giants such as HSBC (HBC) and JPMorgan Chase (JPM). Given the trends in banking, "Aspiring to be the Wal-Mart (WMT) of banking is not a bad idea," he says. Hotels, publishing, aluminium, and steel are other industries undergoing consolidation, he says.

A variety of factors, from elections to strategy to good bargains, may be pushing players toward more M&A activity this year. But it won't be easy for dealmakers: A slowing economy and wild financial markets have many players sitting on the sidelines. Moriarty argues that smart CEOs will see past the current difficulties. If they do, they'll be rewarded. M&A is "such an important part of every successful company's strategic kit," he says. Despite the tough market and weak economy, "Companies are going to find a way to make that happen."

That might be true for the bravest players. But until the economic climate clears up, many firms will be reluctant to spend their rainy-day funds on expensive mergers.