Modest Rise in Mergers Seen in 2003

Corporate bargain hunters could be on the verge of a new round of “Let’s make a deal.”

After a sharp two-year slide, merger activity is likely to bounce back modestly in 2003, according to a new analysis by Ernst & Young. If it does, that could help the ailing stock market as companies search for bargains after three years of tumbling share prices.

Just this week, EchoStar Communications Corp. agreed to buy back a stake from Vivendi Universal, and Los Angeles-based K2 Inc. agreed to purchase Rawlings Sporting Goods Inc. as it begins a bold expansion plan.

The number of announced U.S. corporate merger and acquisition deals this year is off about 42% from 2000’s record levels, which came as the bull market was reaching its climax and acquirers were using inflated stock as transaction currency. The dollar volume of deals has plunged 73% from the high of $1.5 trillion in 1999, said Ernst & Young, which expects to release the study today.

A late rush of deals could improve the picture. This year’s tally of 6,451 transactions worth a total of $403 billion covers only activity through Wednesday.

Regardless, the merger market is healthier than it appears, say partners at Ernst & Young, whose tax consulting group in Los Angeles compiled the data.

The steep deal-making spike during the boom years of the late 1990s “in no way represents a realistic or sustainable level of M&A; activity,” the report says, noting that 2002 appears to be in line with the longer-term trend since 1982.

“It would be both misleading and inaccurate to use the M&A; activity level of 1995 to 2000 as the benchmark to measure the health of the current M&A; market,” said Joseph Doloboff, an Ernst & Young partner.

Ernst & Young expects both the number of deals and average valuations to rise slightly next year from 2002 levels, although it does not expect a 1990s-style “frenzy” anytime soon.

Among the reasons: Buyout firms have plenty of cash at the ready, Doloboff said, and they may be sensing that after 2 1/2 years of falling stock prices, companies may be available at bargain prices.

Ironically, another reason merger activity could pick up is that companies made a lot of questionable acquisitions during the boom years and may now be looking to slim down by unloading unwanted assets.

“Previously aggressive buyers will seek to divest certain holdings in situations where synergies were not achieved or in cases where stocks are under shareholder pressure to improve performance,” said Gregory Soukup, an Ernst & Young partner.

Tom Taulli, author of “The Complete M&A; Handbook,” concurs. “The ‘de-merger’ effect will come into play as companies need to raise cash,” he said.

The Vivendi deal exemplifies this trend. EchoStar agreed Wednesday to pay $1.1 billion to repurchase a 10% stake from Vivendi after scuttling a plan to buy rival DirecTV. The French conglomerate had paid $1.5 billion for the stake in January.

Meanwhile, in its bankruptcy filing this week, Conseco Inc. said it would sell the former Green Tree Financial Corp., which it bought for $6 billion in 1998 in a deal blamed for Conseco’s mounting debt problem.

Analysts also say recent moves by several prominent companies and wheeler-dealers could be a sign of things to come.

In the technology sector, for example, IBM Corp. agreed Dec. 6 to buy Cupertino, Calif.-based Rational Software Corp. for $2.1 billion in cash.

“You want to see savvy deal makers and big companies start to test the waters,” Taulli said. “When you see leaders like IBM stepping up, that tells you something.”

Under its new chief executive, Richard Heckmann, K2 could be in the early stages of a buying binge.

The company, which Heckmann hopes to build into a sporting goods powerhouse, reached an agreement Monday to buy Rawlings for $84 million in stock.

In the 1990s, Heckmann used a series of acquisitions to turn USFilter from a penny stock into a water industry giant that was sold to Vivendi for $6.2 billion in 1999, Taulli said.

“If there’s one person locally who understands the M&A; market, it’s Heckmann, and he’s back in the game.”

Taulli said he attended a corporate finance conference in Carlsbad about a month ago in which 20 companies made presentations, and three already have received buyout offers. Among them: Hoover’s Inc., which got a $117-million offer from business information provider D&B;, the former Dun & Bradstreet Corp.

Though the overall numbers are down, HSBC Holdings’ $14.2-billion deal in November for Household International Inc. indicates that mega-mergers still can get done, Doloboff said. Century City-based Northrop Grumman Corp. recently completed its $10.7-billion purchase of TRW Inc.

So-called hostile takeovers might add to a merger rebound in 2003, analysts say.

Santa Ana-based Troy Group Inc., which makes check-printing and electronic payment systems, recently got an unsolicited $26.5-million takeover bid from Amara Group Inc. of Aliso Viejo, even as the family of Troy’s CEO, Patrick Dirk, was negotiating to take the company private, Taulli noted.

Taulli said angry shareholders at U.S. companies could be increasingly receptive to unsolicited takeover bids, and he said that in today’s era of harsh regulatory scrutiny, managements may be more willing to consider offers to be taken private in a buyout.

Although the equity market could benefit from even a modest merger uptick, sustained weakness in the stock indexes might damp or thwart a deal-making revival before it gains traction, analysts say.

Acquirers often use stock for currency, which is one of the main reasons for the late-1990s merger boom, as profitless firms often bought one another with overvalued shares. With share prices now greatly devalued, companies may be forced to use cash -- if they have any -- for acquisitions, which limits their options.

In addition, falling share prices can put pressure on CEOs to focus on fixing the company’s internal business rather than planning aggressive and costly expansion.

But if it happens, an M&A; pickup could aid the stock market in several ways, experts say. As acquirers bid for companies, sometimes in competition, they may drive up prices because targets typically demand a premium.

Merger activity also can boost market psychology, creating a buying mood as investors see that others are willing to gamble on growth.

The market could use any help it can get: After rallying in October and November, stocks have stalled this month, with the Standard & Poor’s 500 index losing 4.8% through Wednesday.