TMFEditorsDesk (< 20)

Is the Merger Boom the Next Bubble?

October 07, 2009 – Comments (5) | RELATED TICKERS: DELL , XRX , ORCL

Since I cover various technology sectors here at Fool.com, I'm acutely aware of the buyout boom sweeping the market.

Oracle buying Sun.

EMC acquires Data Domain.

Dell swallows up Perot Systems.

Cisco picks off Tandberg.

Xerox targets Affiliated Computer.

The list could go on, but I’m running out of adjectives for buying. It seems like you can't look at the news without seeing a new acquisition. Just this morning European mobile giant Telefonica decided to move further into emerging markets by proposing a buyout of Brazilian telecom GVT.

Still I was surprised to find this article from Bloomberg calling the M&A boom the next bubble.

Excuse me, the next bubble? Let's see the rationale here:

"New Bubble

Just as bad, a takeover boom will create a stock bubble as the number of targeted companies increases. And yet, what people in the markets should be figuring out is how to stop bubbles inflating -- not how to start another one.

Stoking investment frenzies, generating huge fees for bankers, and not worrying about the long-term consequences? Isn’t that the type of behavior the financial markets are meant to be trying to stop.

We may well see a merger boom. But if it happens, only one conclusion can be drawn: We have learned nothing from the crisis of the past year. "

First of all, the total market capitalization of the targeted companies and their post-acquisition appreciations has had little effect on the overall market. The "buyout boom" that's occurred has been a noticeable predominantly because M&A activity was so stilted in the past year and a half. Second, at least in the technology space, most of these buyouts have been financed through cash-rich companies taking advantage of their cash hoard to buy companies at cheaper valuations than we’ve seen recently. This opportunistic buying is exactly the kind of activity I’d like from companies I own.

Second, his conclusion that we’ve learned nothing holds no water for me. What were companies doing before the crisis? Costly stock buybacks at appreciated prices and leveraged buyouts that saddled companies with now undesireable amounts of debt. Quite frankly, this IS an example of companies learning. Once again, the majority of acquisitions I’ve seen are companies making cash (or a mix of cash and stock) buyouts of small competitors in higher growth fields. The one acquisition where a company was biting off more than it could chew, Xerox buying Affiliated Computer, was punished by investors who sent Xerox shares (and by effect, the buyout premium) crashing through the floor. Some deals will fail, but I’d rather see companies putting their balance sheet strength to work if they see opportunities.

Not learning anything would be these companies suspending or decreasing their stock buyback throughout the market decline and now resuming the same pattern once their shares had appreciated 50% or more. Not learning anything would be another wave of highly-leveraged deals with dubious benefits.

We’ll continue to see some dumb acquisitions in the future, that’s only natural for M&A.  However, with so many asset classes appreciating at record levels, it’s borderline ridiculous to call out the merger boom as the next major bubble.

- Eric Bleeker (TMFRhino)