Signs Say Merge Ahead
As Daniel A. Neff sees it, Dec. 15, 2004, was the day the planets aligned, the heavens opened and corporate deals began falling like manna from the skies.
“Dec. 15 was a magical day,” says Neff, who is managing partner of New York City based Wachtell, Lipton, Rosen & Katz. “The Sprint/Nextel deal was announced, and Johnson & Johnson and Guidant. Symantec announced on the 16th it would buy Veritas.” And five days later, Exelon said it would buy Public Service Enterprise Group, Neff says.
The deals, worth $36 billion, $25.4 billion, $13.5 billion and $12 billion, respectively, were all pretty well received, he says. And that was just the beginning.
January saw the announcement of even larger blockbuster mergers, including some household names. Procter & Gamble bought Gillette, and SBC bought AT&T. These corporate strategic deals led the rebounding market in mergers and acquisitions, which had languished for two years.
Indeed, the year 2004 marked a turnaround in M&A activity, which had been in the doldrums since the 2000 stock market crash. The top 20 law firms worldwide recorded a deal volume of $2.02 trillion in 2004, according to figures provided by Bloomberg, a New York City based legal research service. By contrast, 2003 showed $1.23 trillion, and 2002 reported $1.13 trillion.
The volume hasn’t reached 2000 levels–$2.96 trillion, according to Bloomberg–nor do M&A attorneys expect that it will. In fact, they caution that 2000, when the Internet bubble was at its most expansive, represents an aberration and shouldn’t serve as a benchmark.
However, attorneys agree that 2005 volume already shows all the signs of surpassing last year’s activity. This time, though, the experts see a happy confluence of favorable market conditions fueling the deals. The stock market is up, which means companies are worth more, making it a good time to sell. Interest rates are low, overall confidence is high, and–perhaps most important–there is pent up demand, given the lull since the dot com bust.
Experts add that the market appears to be strong enough to favor both kinds of deals: corporate strategic buyers, in which one corporation buys another, and private equity deals, in which an investment fund buys a company.
“The fundamentals are pretty good for the market to continue to climb,” says UCLA law professor Samuel C. Thompson. “The economy looks like it is not going anywhere but forward.”
Thompson, director of UCLA’s Center for the Study of Mergers & Acquisitions, says he expects 2005 to easily surpass ’04, in both the number of deals and total dollar volume. He adds that he tells students, “It’s a great time to be graduating from law school if you are looking at M&A.”
In addition, lawyers say, many companies are emerging from the self analysis imposed by the passage of the 2002 Sarbanes-Oxley Act. The legislation forced companies to spend time and energy on internal controls and regulatory action.
With so much attention turned inward, few companies were interested or able to do big deals. “It’s a lot easier to pull back,” Neff says.
And then there’s the behavioral follow the leader factor, Thompson says. According to Christopher L. Kaufman of Latham & Watkins’ Silicon Valley office, the thought is, “if someone else is big, we ought to be big.” There is a lot of “fundamental insecurity” among companies, Kaufman adds.
“Big ticket M&A depends on confidence and focus,” both of which had been on the wane in corporate America, Neff says. In past years, there was doubt a big merger could really transform a company. He points to the troubled Vivendi/Universal and Hewlett Packard/Compaq mergers as examples.
As with many aspects of financial markets, momentum is a powerful persuader. John A. Healy, chairman of Clifford Chance’s U.S. M&A practice in New York City, points to how quickly the Verizon/MCI deal was announced after the SBC/AT&T telecom deal was struck.
“In an uncertain business environment, companies focus on risk and talk themselves out of doing deals, or worry about managing themselves through the risk. In a positive environment, you tend to worry about losing the deal to another bidder and step up to the plate quicker,” Healy says.
Antitrust experts say that particularly in a heavily regulated industry like telecommunications, no one wants to be the last merger to arrive at regulators’ doorsteps. The feeling is that if both deals land on agency desks at about the same time, the chances are better that both will be approved or rejected, rather than just one.
Both telecom and software are expected to be busy sectors this year. Another market to watch is the public utility industry, says New York City lawyer James Morphy, managing partner of Sullivan & Cromwell, a traditional M&A powerhouse.
“They have been talking for 30 years about repealing the Public Utility Holding Company Act” of 1935, Morphy says. “With a Republican Congress, there may be a real desire and effort to deregulate that industry.”
Midsize Mergers, Big Business
Not all M&A business is big-time corporate. Attorneys say the middle market, defined as deals ranging from $50 million to $2 billion, accounts for more work overall than the superdeals.
The newly combined law firm of DLA Piper Rudnick Gray Cary, for example, closed 237 deals last year worth some $35 billion, its lawyers say. That’s a deal count on par with Sullivan & Cromwell’s, but with a much lower transaction value.
Antitrust issues aside, midmarket M&A deals can be more complicated than larger deals, say Stephen A. Landsman and Diane Holt Frankle, who co chair DLA Piper Rudnick’s U.S. M&A practice.
Such companies often have smaller in-house legal departments and less sophisticated internal controls, adding months to the due diligence and making more work for the outside lawyers. There can also be more handholding in the sale of a private company, particularly a family-owned operation.
Kaufman of Latham & Watkins says middle market M&A is buzzing for two reasons. Companies that hit $125 million in market capitalization used to be able to go public; now the threshold is more like $300 million, he says. That, combined with the burdens of Sarbanes-Oxley and cost of a public offering, make selling a company a much more attractive alternative to taking it public, especially if the company is a niche player in a small market.
Back at Wachtell Lipton, Neff says the firm is busy, but not at the fever pitch of 1999 and 2000. It’s difficult to forecast how the year will play out month by month. “I’ve given up forecasting. There is nothing about deals that is seasonal.”