Merger mania

A look at the past, present and future of the mergers and acquisitions phenomenon that has swept the globe in 2007.
Merger mania
By Administrator
Thu 30 Aug 2007 12:00 AM

Temasek, a Singapore-based investment company is looking to buy 30% of the London Stock Exchange; Dubai recently gobbled up a chunk of a Las Vegas casino and is on the verge of acquiring a Swedish exchange; Warren Buffett's conglomerate is ready to deploy its US$50bn war-chest. It seems that mega-mergers are being closed every day, and major players are expanding in leaps and bounds.

Of course, deals have been going on from time immemorial, but the complete eradication of cultural, religious, and political barriers is unique to this new era of hyper-globalisation. Nothing is surprising anymore: Dubai World has admitted that it is investing in hotels that contain casinos, Bear Stearns is shilling Sharia-compliant financial instruments, and the Communist Chinese are buying banks, industrial giants, and lots of dollars. It is only a matter of time until a private company (or wealthy entrepreneurial government) reaches annual revenues of a trillion dollars, employees in the tens of millions, and a footprint that spans the globe (and beyond).

 

The complete eradication of cultural, religious, and political barriers is unique to this new era of hyper-globalisation.

Unless you are living in a cave, you are constantly targeted by companies and are factored into their bottom line. The most benign of activities, such as walking down a street, is studied by businesses to gauge footfall to know where to place stores, and by advertisers to predict where to place ads. Turn on a light, and under closer inspection, you may find out that General Electric made the bulb. GE also makes jet engines, medical equipment, dabbles in finance (with assets exceeding US$500bn), and beams movies, news, and television programmes all over the world through NBC and Universal Studios. The expanding portfolio of corporations does not only increase profitability and diversify revenues. The mergers, acquisitions, and consolidations of the last few decades have placed the major industries of the global economy in fewer hands, giving a small cadre of individuals great power, and ensured that the long tentacles of the corporation touch us all on a daily basis.

Growth is the major driver of this expansion. As individuals, if someone earns US$200,000 in 2006 and roughly the same the next year, you would say that they are doing well. This is not the same for companies, especially big ones. If a large holding company achieves revenues of US$150bn in a year, the pressure is on to find another US$15-20bn more. Very few regions and sectors enjoy such levels of organic growth rates, so the natural strategy is to acquire.

The impersonal, faceless giants we see today are not the inexorable outcome of the original concept of the corporation. Noam Chomsky, the MIT linguist and renowned intellectual, is a vociferous critic of the consolidation of power and wealth in the hands of the few (through massive holding companies). He explains that the original intention for creating the legal regimes that gave birth to the corporation was for specific, limited projects that governments or groups wanted to accomplish. They were considered "artificial entities with no rights". This changed in the mid-19th century, and corporations were "accorded all the rights of persons, and far more, since they are ‘immortal persons', and ‘persons' of extraordinary wealth and power. Furthermore, they were no longer bound to the specific purposes designated by State charter, but could act as they choose, with few constraints."

The companies that flourished in the industrial age form the basis of the modern corporation, but none have influenced the current structures and practices more than John D. Rockefeller's Standard Oil. In 1863, at the age of 24 and four years after the discovery of oil fields in the American Midwest, Rockefeller invested US$4000 to build and operate a refinery. The early days of the oil industry were extremely competitive and many speculators went bust within months of beginning operations. Railroad companies had a monopoly on delivery, and it was they that set prices as they pleased.

In order to grow, Rockefeller realised that he would need to buy more refineries and lower the cost of production. He expanded capacity by borrowing money. (His partners were concerned about the levels of debt the company carried, so he bought them out in what may have been the first leveraged buyout). The company (then called Excelsior Works) was still a small operator and did not have the economies of scale advantage to negotiate with the railroads; cost cutting came in the delivery system.
Oil in the 1860s was sold by the barrel and cost about US$2.50 a piece. Rockefeller set up a barrel making operation that lowered costs to US$0.96. He created new companies across the US and exported products to Europe. By 1870, the company was big enough to force railroads to enter into exclusive agreements, and that same year, Rockefeller consolidated the various companies under his control into Standard Oil, with an initial capital of US$1m.

With more capacity and profits than ever, Rockefeller needed to grow. The fastest way to do that was through acquisitions. By 1872, Standard Oil boosted its capacity sixfold. His railroad agreements became ever more favourable; rival oil companies now had to pay Standard Oil a penalty for using railroads that the Rockefeller had agreements with. This type of anticompetitive behaviour did not last long, but Standard kept charging ahead and started buying pipelines. In 1982, Standard Oil controlled 80% of the US refining business, 90% of the pipelines, and held dominate positions in ancillary businesses such as petroleum byproducts, barrel making, and tank cars.

The vertical and horizontal integration strategy is only one way in which Rockefeller influences businesses today. Entrepreneurs understand the steps necessary to build industries, even during the days of Standard Oil. What was completely novel about the new corporation was the way it was structured. Running a company the size of Standard is in no way manageable by the imperial or authoritarian executive, especially in the days when communications were limited. So the executive committee was created - today's board of directors. Corporate strategy was set from above and subsidiaries worked to achieve goals and report back to the committee. Employees were incentivised with salaries and equity sharing, and the company flourished and made Rockefeller one of the wealthiest men in history.

 

Deep pockets alone, however, will not buy GCC companies a seat at the global economy’s head table.

The modern day conglomerates follow the same model of vertical and horizontal integration, and many go beyond by expanding into multiple sectors. This phenomenon is what sparks Chomsky's ire. The power amassed by the few and the organisational structure makes "a corporation or an industry, if we were to think of it in political terms, fascist; that is, it has tight control at the top and strict obedience has to be established at every level - there's a little bargaining, a little give and take, but the line of authority is perfectly straightforward". His analysis may be valid, but history shows that the corporation is here to stay, and the consolidation of all businesses into a few entities seems to be the trend.

Of course, the Rockefeller method was the genesis of major corporations in the West such as the aforementioned General Electric; the emergence of the massive holding companies and state-owned investment funds is a new twist of the old model. While no senior manager at GE can claim to understand the intricacies of all the subsidiaries, most, if not all, have experience and made a significant contribution to the business. When Standard Oil made an acquisition, it brought in its capital, management, and know-how to develop the smaller entity. The state-owned funds making the headlines lately such as Temasek, Abu Dhabi Investment Authority (ADIA) and Dubai World, are acquisition vehicles that provide capital injections to portfolio companies for a stake in the profits and a seat on the board. The early state-run investment funds that began in Norway, Kuwait, and Alaska were passive investors, executing strategies that mirror those of pension funds and insurance companies. The new, more activist funds emerging in Abu Dhabi, Dubai, Qatar, and Singapore are seeking returns on investments and acquisition of companies and assets that complement their countries economies. The demand from the perpetually liquid funds has changed the dynamics of the global economy.

A prime example of this change can be extrapolated from recent events. The global credit markets have taken a heavy hit this summer, drying up much of the liquidity that was needed to close the major deals private equity firms announced earlier this year. The downturn also affected US and UK real estate prices and depressed equity markets worldwide.
Historically, these types of hiccups in the free market had a tendency to spark a recession, but in the age of the new conglomerates, these types of situations are a buying opportunity. (Examples of the recent buying spree, such as Dubai World's US$5.2bn in MGM Mirage and ADIA's purchase of US$1.2bn plot of land in Malaysia will be examined in more detail later in this special report).

A few months ago management consultancy McKinsey, produced a report entitled ‘How Gulf companies can build global businesses' which explained the rationale behind the transformation of GCC companies and the region's state-run investment funds. The report begins by predicting that GCC countries are expected to "accumulate US$2.4 trillion in windfall revenues through 2014" even if there is a modest decline in oil prices. This huge influx of cash is being funneled into two directions: local and international investments. On the local side, Gulf countries are building their way into modernity, and creating financial, logistics, retail, and education centres (healthcare is lagging but on its way). The hyper-growth has its negative consequences such as inflation and speculative bubbles in real estate and the stock market, but since 2000, it has been a pretty smooth ride.

Taking a page out of the monopolistic chapter of Rockefeller's book, governments in the region erected barriers to foreign companies in order to develop homegrown players in construction, petrochemicals, and telecommunications. While this creates monopolies, it also helps nascent organisations acquire the experience and size to compete on a global scale. Companies like SABIC, Emaar, and MTC have been successful in the international M&A game - earlier this summer, SABIC bought the plastics division from GE for US$11.3bn. With the massive influx of cash into the region, and the emergence of formidable local companies, GCC players are now looking for large-scale opportunities abroad.

 

GCC countries are expected to “accumulate US$2.4 trillion in windfall revenues through 2014”.

The McKinsey report sees this as an inevitable flow, but warns of the difficulties. The report states: "Deep pockets alone, however, will not buy GCC companies a seat at the global economy's head table." They must acquire the skills necessary to face global competition, and McKinsey sees the fastest method to acquiring the skills is through acquisition. Instead of the acquirer bringing in cash and experience, the region's acquirers will pay in capital and extract human capital.

This, according to McKinsey, is the main reason for international acquisitions: "Acquisitions in Europe and North America, especially, are typically part of a broader strategy to gain rapid access to Western management know-how and technology; they allow Gulf companies to short-circuit the laborious task of building such capabilities internally."

One of the challenges facing the expansion is the corporate culture in the GCC, both in the companies and the hierarchy of the investment funds. In boardrooms, business executives sit side-by-side with government officials and Sheikhs who own/rule the companies and the countries. This mix is unthinkable in the West, and the clash causes problems when the target company is of strategic value to the host country, such as the ports in the US or the stock exchange in Sweden. The question that the foreigners inevitably ask is ‘who are we selling to?' McKinsey recommends that GCC companies will need to strike a balance between "their own established cultural mores and the expectations of the global corporate environment". The new conglomerates have to find a way to takeover strategic targets not only with the cash, but to morph their structures to assuage the fears of the acquired.

The rationale for acquisitions and growth is clear, and the constant closing of mega-deals affirms that the phenomenon is here to stay. Over the next 14 pages, Arabian Business takes you on a journey covering all the major global players, and predicts who will secure the next billion dollar mega-deals.
Speculate to accumulate

Technology

What's the score?The international technology market is finally picking up, slowly in established markets after several years in the doldrums, and at an electrifying pace in the major emerging markets including India and China.

India, in particular, is experiencing an influx of large multinational PE players opening their trillion-dollar valued cheque books in front of salivating Indian software and hardware organisations.

Show me the money...

Apax Partners and TPG are vying to make what would be the first investment for either buyout giant in India as Western interest in the country gathers pace. The private equity groups are understood to be in talks to buy a 29% stake in Patni Computer Systems, one of India's largest IT outsourcers, held by founding brothers Ashok and Gajendra Patni.

 

India is seeing an influx of large PE players opening trillion dollar cheque books in front of salivating IT organisations.

3i has also unveiled plans for a US$1bn infrastructure fund focused on India. This came hot on the heels of New York giant Blackstone's second buyout in India in three months completing the purchase of a controlling stake in clothing maker Golkadas Exports, and buying call centre operator Intelenet Global Services in June.

Deal or no deal?Neither Apax nor TPG will comment, but they are understood to be holding separate negotiations with the Patni brothers, and not bidding together.

General Atlantic Partners, which owns 16% of the company, is thought to be keen to hold on to its stake, while Narendra Patni, the third founding brother, who serves as the company's CEO is said to be willing to buy some of the shares up for sale. In its announcement of the US$1bn infrastructure fund, 3i said it would anchor the vehicle with US$500m - half of which will come from 3i itself, while the other half will come from 3i Infrastructure, the US$1.4bn fund it floated in March.

What are the odds?
Done Deal: 10/10

As high as they can get. Expect all the major buyout houses to follow suit, and fast.

Hospitality & Entertainment

What's the score?If there is one sector where Dubai is ahead of the rest of the GCC it is in the hotels, hospitality and entertainment field. The most recent deal was carried out by Dubai World when it paid US$5.2bn to acquire a significant stake in MGM Mirage and its US$7bn CityCenter residential and gaming development on the Las Vegas Strip. Although not a Sharia-compliant business, the deal has courted controversy with its links to casinos and the highly lucrative gaming industry.

Sultan Ahmed bin Sulayem, Dubai World's chairman, however, spoke to Arabian Business and said that the deal had "nothing to do with gaming" but with a high-end hospitality group and property that "can be replicated across the rest of the world", including India and China. India, for example, has plans for 60 new malls and mega-complexes in the next few years. Gambling is forbidden in Dubai under Sharia law, however, Sultan Bin Sulayem said Sharia law did not apply to the company's investments. "Our business has nothing to do with Sharia law. This is Las Vegas, Las Vegas, not Timbuktu."

Show me the money...

Dubai World has openly stated that it is planning to increase its stake in MGM Mirage to as much as 20% once the company has secured gaming licences from US authorities in jurisdictions where the Las Vegas group has casinos. Sultan Bin Sulayem said that market conditions would also determine when the group raised its stake.

It was widely predicted by analysts that MGM would sell at a later date than they did, seeing a price war emerge and its share value rise dramatically, however, its advisors spotted that the Dubai deal would immediately wipe billions of dollars worth of debt from its balance sheet.

Without hesitation MGM laid its cards down on the green baize - a far safer bet than the long game. Expect Dubai World to up its stake, expand the brand across several developed and emerging markets including the US, UK, India and China, as well as carefully considering whether or not to bring it across the Atlantic to offshore destinations in Dubai (one of the Palms or the Queen Elizabeth 2 cruise liner, perhaps) and, if it can, within the other emirates.

Deal or no deal?

It seems hospitality holds no fear for Dubai World. Non Sharia-compliant and free to invest where and with whoever it wants, Dubai World will continue to grow the business unabated.

What are the odds?
Very high: 9/10
Media

What's the score?

A Gulf country has long been rumoured to be eyeing up a reputable and profitable news media organisation. With Rupert Murdoch's News International having waved a cool US$5bn in cash in front of the Wall Street Journal's Bancroft family, other state and privately owned private equity players are cunningly sniffing around businesses going for peanuts, those crumbling at the edges and in need of a cash injection, and those opportunities that are just too good to be true.

Show me the money...

The companies that fit into that bracket are easy to spot. Troubled cable TV company Virgin Media could prove an attractive proposition. Despite its CEO and seasoned US cable executive Steve Burch walking out last week it is still up for sale. It became Virgin Media when it merged with NTL and Telewest, acquired Sir Richard Branson's Virgin Mobile and rebranded, all overseen by Burch.

 

State and privately owned private equity players are sniffing around businesses going for peanuts or those crumbling at the edges.

The other possibility is the resurgent Financial Times and its mother company Pearson, owners of Penguin books and textbooks and FT Publishing that, despite making a first half loss of US$210m, is expected to grow by 10% over the rest of 2007, according to financial data provider IDC, in which Pearson is a majority stockholder. Pearson and its dynamic female CEO Dame Marjorie Scardino abandoned June talks with General Electric over a joint counter bid for the Journal. She is confident that the FT is a "worthy opponent" for News Corp, making it one of the most influential business news organisations in the world.

Deal or no deal?

Virgin Media is a truly multimedia business, but unfortunately its reputation has recently been soured by a failed bid for British terrestrial network ITV and a public spat with BSkyB over satellite broadcasting rights. The last few months has seen UK private equity vultures hovering over Branson's 10.5% stake. He is said to be keen to sell, but knowing him, it will go to the highest bidder. This is where a Gulf investor could potentially come in.

Meanwhile several of Pearson's investors, including fund manager Franklin Templeton, have urged the company to sell the newspaper in recent years in order to focus on its book publishing and educational business, however one woman stands in the way.

Scardino has previously said that would happen over her "dead body", and has repeatedly stated that Pearson has a "good dialogue" with its shareholders. Nevertheless, if a strong bid came in, the shareholders would be tempted. Dubai's Istithmar is rumoured to be interested, but expect this to be a long and drawn-out affair.

What are the odds?

Virgin Media:Expect Branson's media baby to be snapped up by a UK private equity firm in the next two to three months.
High: 7/10

The FT:If Scardino sees the merits in selling the FT to foreign buyers and concentrating on Pearson's other assets, Dubai could be tempted. It needs a media play and this could be it, but not before mid-to-end 2008.
Medium: 5/10

Energy

What's the score?

There is only one company that is currently making huge strides in the energy sector right now. It has billions with which to invest in energy and nowhere on the planet is safe from being acquired. The Abu Dhabi National Energy Company, or Taqa, plans to invest US$4bn in new energy acquisitions over the next 12 months, the company's CEO has said. Opportunities in countries as far and wide as Algeria, Libya, Tunisia, Norway, The Netherlands, UK, Canada and the US exist, Peter Barker-Homek has stated.

Show me the money...

Taqa's latest upstream acquisition - the US$540m Pioneer Canada - will go through the normal regulatory approval process and is expected to be completed in November this year. This is Taqa's fifth overseas acquisition since November 2006. It plans to invest US$300m in 2007 to boost output at its oil and natural gas producing assets, and since January this year, has invested US$200m. But it is far from done.

Deal or no deal?

The combined output of Taqa's upstream assets is just over 60,000 barrels of oil equivalent a day and even if there are no further acquisitions by the company, Taqa has said that it could sustain its current production level for several years. This, however, is extremely doubtful. Taqa is waiting to pounce on the right opportunity and then start pumping its UAE-based cash into several large deals. Expect the energy giant to once again open its chequebook on a smaller deal before the end of the year, and to splurge the cash in 2008 in Norway, North Africa and the US. Give it time and it could become the most important energy player in the world.

What are the odds?
Very High: 9/10
Sport

What's the score?

Currently the score is 0-0. An influx of foreign buyers into the prestigious Premier League has so far failed to figure a regional investor. Dubai was thwarted in its attempts to acquire Liverpool Football Club, while Qatar came second in its bid to buy 9.9% of Arsenal FC, both losing out to US owners.

Show me the money...

With Aston Villa, Birmingham, Chelsea, Manchester United, Manchester City, Portsmouth, and West Ham all owned by non-UK citizens, there isn't much left out there - except one club, Arsenal. The combined prestige and marketing power to a foreign country or individual of owning a club is undoubtable, so who will step in to tackle Arsenal from the clutches of its longstanding and very British owners?

Deal or no deal?

This could well be the biggest stumbling block of them all. British fans are not fond of foreign owners taking control of their centuries-old clubs.

 

‘Bulge bracket’ firms are always on the lookout for global expansion, and this year we may see the biggest takeover in the history of the modern financial world.

However, they can sometimes be persuaded. If certain promises are made, including pouring vast amounts of funds into training and ground facilities as well as the best players in the world (see Abramovich's Chelsea as the perfect example) the fickle nature of sports fans can begin to turn. Expect a major move from either Dubai, Qatar or one of the US's big sporting bigwigs in 2008.

What are the odds?
High: 7/10

Real Estate

What's the score?

The Qatar Government's investment arm has demonstrated a clear interest in the London real estate market with the US$197m purchase of One Hyde Park - and with a US$70bn kitty, surely they won't stop there.

Show me the money...

Qatar only buys big, and its next move will be no different. A range of iconic establishments are on its radar, and if the City rumours are to be believed, then London institution Claridges Hotel could be next up. The hotel is perhaps as well known now for its celebrated restaurant, at which Michelin-starred celebrity chef Gordon Ramsey tends the stove.

Deal or no deal?

Quinlan Private, an international property investment and advisory group, bought the Savoy Group comprising The Berkeley, Claridges, The Connaught and The Savoy together with the Savoy Theatre and Simpson's-in-the-Strand in May 2004 for US$1.5bn. It may well be tempted to sell up, as long as there's a hefty profit involved.

What are the odds?
High: 7/10
Banking & Finance

What's the score?

‘Bulge bracket' firms are always on the lookout for global expansion and consolidation in this sector, and this year we may see the biggest takeover in the history of the modern financial world. Barclay's US$130bn takeover of ABN Amro has become a war of attrition, but most analysts expect the saga to reach a positive conclusion before the end of the year.

Show me the money...

On a slightly more modest scale, private equity firm Bain Capital, one of the world's leading private investment firms with over US$50bn in assets, is known to be eyeing a stake in Taiwan's Cosmos Bank. The deal, if finalized, will be worth US$912m, and the firm has been in negotiations with Taiwanese lenders for leveraged buyout financing since late July.

Deal or no deal?

Banks such as Cosmos are struggling after the Taiwanese consumer credit crunch last year, and as a result they are considered easy prey for private equity firms. While China and South Korea have shut the door in the face of foreign private equity funds, Taiwan has no such qualms. Large buyouts are on the way.

What are the odds?
Very High: 7/10

Healthcare

What's the deal?

Public healthcare systems are under pressure in the West, and governments are looking more towards the private sector to establish profitable, sustainable healthcare models. Last year the largest private operator of healthcare facilities in the world, the Hospital Corporation of America, was acquired by Kohlberg Kravis Roberts, Bain Capital and Merrill Lynch Global Private Equity in what was, at the time, the largest leveraged buyout in history, adjusted for inflation.

Show me the money...

In emerging economies, healthcare is big business. This leaves the door open for firms such as KKR and Bain to snap up the fragmented systems of countries such as Brazil, Russia, India, and the GCC. This scenario would see the creation of major conglomerates that may have public operations in one country, and free market businesses in other, high-margin developing countries.

Deal or No Deal?

Healthcare is known as the ‘third rail' of western democracies, and private firms had better be wary of minding the gap, for fear of a sharp shock. Public opinion is crucial, and healthcare privatisation plans are rarely, if ever, popular. The big fish will have to choose their timing very, very carefully if they are to make a healthy investment.

What are the odds?
Medium: 7/10
Aviation

What's the score?

The Middle East's obsession with the skies isn't about to let up any time soon, although the region's governments are presently more interested in strengthening their own markets than they are in flashing the cash abroad. Everyone who's anyone has their own carrier - the more the merrier - and so expect a raft of new start-ups, as opposed to old-school investments in existing international carriers.

Show me the money...

Any partnerships that are struck with carriers outside the region are likely to be for reasons of extending Middle East airlines' route-reach, rather than bottom-line investment potential. That said, in July the vice chairman of Dubai Investment firm Istithmar told a newspaper that it was in the hunt to acquire a majority stake in an unnamed African airline, which would undergo restructuring.

Outside the Middle East region, last week shares in Iberia, the Spanish airline, soared upon heavy speculation that private equity group TPG and British Airways were poised to launch an offer, following reports the partnership was wrapping up due diligence on Iberia's accounts. More news is expected imminently, though the partners are keeping quiet for now.

Deal or no deal?

In the case of Istithmar's African airline, no news doesn't necessarily mean good news. Khalid Al Kamda told reporters that the firm was "in the final stages of finalising a deal" with the unnamed carrier, but that was two months ago, and we've heard nothing since. Is the agreement still on course, or has it hit turbulence? Our money, for the moment, is on the former.

 

Iberia: analysts have suggested that a takeover would make sense for BA.

With regards to Iberia, analysts have suggested that a takeover would make sense for BA, which has been left out of previous rounds of consolidation in the airline industry. It looks like the old lady of the aviation world is - finally - making her move into the 21st century air wars.

What are the odds?

Istithmar:Should wrap up the deal before the end of the year
High: 7/10

Iberia:It's about time BA joined the market frenzy
High: 7/10

Retail

What's the score?

Last month, Istithmar was given the go-ahead to buy the luxury clothing chain Barney's of New York. The US$942.3m purchase from Jones Apparel, beat out an offer from Japan's Fast Retailing. Barneys plans to open up to five outlets at a cost of as much as US$100m, Istithmar said.

Show me the money...

In the retail world, close attention is being paid to US giant Wal-Mart's first tentative steps in the lucrative Indian market.

There have been protests against newly-opened stores from Indians suspicious of modern corporate retail and its impact on family-run stores, as well as for politicians with an eye on national elections in 2009 - all of which has given pause to potential investors aiming for a slice of the country's US$350bn retail market.

Already, Carrefour and Tesco have shelved their plans until there is greater clarity on policy, and of multiple-brand retailers only Metro, Shoprite Holdings and Marks & Spencer have a limited presence.

Deal or no deal?

India is simply too large a potential market to ignore, although it looks as though it's a case of softly, softly, for the big boys of retail - at least in the meantime.

What are the odds?
Low: 3/10

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