U.S. M&A slumps, but strategic deals help fill void : US Business

By Jessica Hall

PHILADELPHIA (Reuters) - Merger activity in the United States dropped 29 percent in the second quarter, faring better than the 40 percent global slump, as corporations filled the void left by buyout firms and targeted big consumer brands such as Anheuser-Busch Cos Inc and Wm. Wrigley Jr Co .

"Strategic buyers see an opportunity here due to the absence of the financial buyers. For the last 24 months, prior to the downturn, strategic buyers were getting outbid by financial buyers. That's not happening now," said Bob Filek, a partner with PricewaterhouseCoopers' transaction services.

During the first half of the year, private equity deal volume dropped 85 percent in the U.S. and 76 percent globally, according to Thomson Reuters data released on Friday.

The strength of corporate deal-making came as private equity firms were hobbled by the difficulty of borrowing money -- and the high cost -- in the tight credit markets as well as banks' uneasiness to lend in the wake of the subprime mortgage crisis.

Jimmy Elliott, global head of M&A at JP Morgan, said he expected strategic acquisitions to continue in the second half of 2008.

"Once CEOs and boards feel confident that they are at or near the bottom, and believe there is a window of opportunity, they will not stand on the sidelines anymore," Elliott said.

"So, yes, strategic acquisitions will continue to dominate the activity."

Corporations with strong balance sheets have often had cash on hand to make acquisitions, and been able to amass additional funds for large takeovers of well-known brands with proven cash flow and high credit ratings, analysts said.

"Both Mars and Wrigley and InBev and Busch -- those are premium-brand transactions and high quality transactions," Filek said.

"When you have a good corporate buyer and you have a premium transaction, debt funding is available. What is really missing in the market today is debt funding for higher leveraged private equity transaction," Filek said.

Corporate deal-making in the U.S. totaled $402 billion in the second quarter, just shy of the year-ago second-quarter tally of $404 billion. The second quarter also rebounded from the slow start seen in the first quarter, when strategic deals totaled only $136 billion, Thomson Reuters said.

SLOWEST START SINCE 2005

Even though U.S. merger activity showed a 172 percent jump in the second quarter over the first period, the first six months of 2008 overall still marked the slowest start for a deal-making year in the U.S. since 2005, Thomson Reuters said.

The weak equity markets, the sinking U.S. dollar, skittish consumer confidence, the upcoming U.S. presidential election have compounded the problems of tight credit markets, analysts said.

In the six months of 2008, U.S. deal volume dropped 42 percent to $586.8 billion, while global volume dropped 35 percent to $1.567 trillion, Thomson Reuters said.

The consumer staples sector was the most targeted U.S. industry this year -- attracting $104 billion in deals -- and was the only sector to show increased merger volume, Thomson Reuters said.

The declines in deal activity in other sectors ranged from 17 percent for energy and power, to 80 percent for real estate, Thomson Reuters said.

For the first half of the year, Goldman Sachs Group Inc held the No. 1 ranking for U.S. advisory work, while Citigroup Inc moved to the No. 2 spot, up from No. 4 a year ago. JPMorgan & Co remained at No. 3.

Boutique advisory firm Centerview Partners, which has expertise in consumer products and retail sectors, moved to No. 10, up from No. 13, according to Thomson Reuters.

HIGHER PREMIUMS, LOWER STOCK PRICES

The recent spate of corporate deals helped boost the average deal premium -- or the price a buyer paid over the target company's stock price one week prior to a deal announcement.

The average premium paid so far this year was 28 percent, up from 25 percent last year, and 24 percent in 2006, according to Thomson Reuters.

Some of the buoyancy reflects the current weakness in stock prices rather than the generosity of suitors.

"Deal premiums continue to rise, but that is somewhat misleading because stock prices have come down from their highs," said Stefan Selig, global head of mergers and acquisitions at Banc of America Securities.

"Current premiums are not as fulsome compared to where those stocks have traded over a 52-week period. As a result, boards are often rightly concluding that those premiums are illusory," Selig said.

Given the ability of some large corporations to borrow money, and the weaker equity markets, many suitors have been emboldened to make unsolicited or even hostile takeover bids.

So far this year, unsolicited approaches represent about 20 percent of U.S. M&A activity, compared with 6 percent last year. The largest is InBev NV's current offer to acquire Anheuser-Busch, Selig said.

Anheuser-Busch said Thursday it rejected InBev's unsolicited $46.3 billion takeover offer, calling it financially inadequate. It added that it would continue to consider strategic alternatives.

InBev filed a lawsuit Thursday to confirm that Anheuser-Busch shareholders can remove all 13 board members without cause. The move was widely seen as the first step toward a hostile takeover.

HOSTILE

"Hostile activity is up sharply, and I expect it will represent the largest percentage of overall deal activity," Selig said.

JP Morgan's Elliott said he expected to see more unsolicited activity through the rest of 2008. "Strategics are resolute when there is an opportunity to create shareholder value. It goes with the territory when there is a weak stock market ... they are not as easily deterred," he said.

InBev's bid highlights the allure of U.S. companies to foreign firms at a time when the dollar is historically weak. Despite the potential risk of buying a U.S. company and gaining exposure to the weak economy, the risk of a recession may be short term, analysts said.

"Historically, exchange rates don't affect M&A that much because although you are able to get more for your investment when you buy, you get less in cash flow in return," Filek said. "The one exception is that you are looking at a dollar devaluation that is unique in a 25-year window."

For the rest of 2008, analysts and investment bankers expect corporate dealmakers to continue to grab the headlines.

But private equity firms won't disappear. Instead, they will likely cobble together smaller deals or take minority stakes in larger companies.

"There have a number of recent LBOs that suggest that signs of life are beginning to emerge, including Carlyle's purchase of Booz Allen, and Blackstone's deal to acquire Apria," Banc of America's Selig said.

(Additional reporting by Jui Chakravorty Das; editing by Jeffrey Benkoe)

(For more M&A news and our DealZone blog, go to http://www.reuters.com/investing/news/mergers )

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