The recent spate of big takeover deals, particularly in pharmaceuticals, represents the first step in what analysts expect to be a busier second half of the year for mergers and acquisitions.
Deal-making has been slow in the initial six months of 2008, lagging about $1 billion behind last year's $2.5 billion at the same juncture.
But as contraction becomes more of an inevitability in a sluggish market, firms that have weathered the storm will be in a position to snap up smaller ones that offer value in both balance sheet and market share.
"I think you'll see an increase in M&A as the year goes forward particularly as the financial market settles down," says Mike Burnick, director of research at Weiss Capital Management. "The reality is there's a lot of good value out there."
Wall Street has had plenty M&A news to digest recently: Swiss drugmaker Roche made a $43.7 billion move Monday on its US partner Genentech ; Israel's Teva said last week it will acquire US generic drug counterpart Barr Pharmaceuticals for $7.46 billion; and outside the industry, Belgian beverage heavyweight InBev will buy Budweiser beer maker Anheuser-Busch for $52 billion.
Weak Dollar Spurs Deals
The pattern is likely to become familiar: Deep-pocketed foreign firms snapping up undervalued American peers at prices made all the more attractive because of lucrative exchange rates against the anemic dollar.
"European countries with very strong currencies of their own are picking up classic American corporations," Burnick says. "You're looking at a lot of cheap helpings that look particularly attractive."
Still, a buying free-for-all is unlikely.
Companies will continue to try to protect their balance sheets as marketplace liquidity remains shaky, and they'll also be reticent to do anything dilutive to their stock prices.
As such, firms in the M&A marketplace should be more inclined to focus on synergies, or ways that an acquired company can help grow core business while offering areas to combine services and cut costs.
With the world economy unstable at best, the willingness to take chances is likely to remain low. Howard Silverblatt, an analyst at Standard & Poor's, says he expects M&A's resurgence to resemble that after the recession of 2001 and 2002.
"The risk appetite is going up but it's still extremely low," Silverblatt says. "After the bear market of 2002 companies got burned and they shied away. When earnings came back they did not start spending. The big buyback started at the end of 2004."
Yet he notes that companies have a tremendous amount of cash on hand to make deals which they will start using to improve their corporate positions in moves that will appease board members.
"We think the combination of so much liquidity and assets sitting on the side, with cash and Treasury shares combined ... as well as bargain hunting will start to take effect," Rosenblatt says.
Analysts expect to see the greatest amount of activity to happen in pharmaceuticals, health care, technology and airlines, with a focus toward helping share price and increasing cash holdings.
"They're looking for companies that have strong market share that help their company," says Quincy Krosby, chief investment strategist at The Hartford. "They also want companies that have good balance sheets (and) customer lists, anything that gives them ultimately a stronger position in that sector."
Banks Looking for a Big One
For all of its beaten-down components, the banking industry has seen relatively little deal making, with the notable exceptions of the JPMorgan Chase bailout of Bear Stearns on the investment side and the Bank of America deal to acquire mortgage king Countrywide Financial on the retail side.
That could change as investors get a clearer picture of where the industry stands when writedowns shake out of corporate balance sheets.
"There's a fair amount of uncertainty right now. I think some of the acquirers are thinking that if they take on a problem situation too soon the market might question their judgment," says Bill Isaac, former Federal Deposit Insurance Corp chairman who now is managing director at LEGC consultants in Vienna, Va. "So I think they're probably being a bit cautious."
Isaac thought the Bank of America-Countrywide deal might trigger more similar mergers among industry titans, but that hasn't been the case.
"We're in an awkward stage in this cycle where the buyers are still a little bit reticent because they're not sure if we've hit bottom, and the sellers are reticent because they feel we have hit bottom and we're on our way back up," he says. "If one of the large banks acquires another large bank and is well-received in the marketplace, then I think the other reservations about doing a deal will go by the wayside."
Until that comes, though, there remains sentiment the big deals, including those in pharma, could be one-off events until investors and company executives find more solid footing in the stock market and the economy.
"You would have thought based on fundamentals and dynamics of the big pharmaceutical businesses that this would have happened more," says Leerink Swan Research pharma analyst William Tanner, who is skeptical that the recent deals are foreshadowing big moves to come. "People try to put together baskets of things but at the end of the day it's a lightning strike. Roche and Genentech make some sense in that they have a fairly close connection."
More contraction pressure on the industry probably would make something happen.
"I guess it's just going to be the closer to the brink (where) the big pharma companies know they have to do something," Tanner says.
Confidence, S&P's Silverblatt says, will be essential for the M&A trend to accelerate.
"First you need a better economy and more confidence going forward. You need an overall improvement in consumer sentiment, which would transfer into a board being willing to accept more risk," he says. "You need to get more confidence to take that next step."