It is buccaneer capitalism at its most dramatic. The wave of huge corporate takeovers and leveraged buy-outs sweeping through North America in recent weeks has caught even the financial world by surprise. On Monday, Oct. 24, New York City investment house Kohlberg, Kravis, Roberts & Co. announced a record-breaking $24-billion offer for RJR Nabisco Inc., the 19th-largest industrial company in the United States. In the process, Kohlberg topped an earlier $20-billion proposal made by the Nabisco management group, which is led by Winnipeg-born chief executive officer Ross Johnson. And merger mania is also threatening to engulf such high-profile household names as Kraft Inc. and Pillsbury Inc., and a broad swath of Canadian financial analysts say that even the biggest companies in the United States are no longer immune to being swallowed up.
Fuelling much of the takeover pressure are depressed stock prices, which make it cheaper for expansion-minded corporations to simply go out and buy companies than to build them. At the same time, some firms are being forced to merge and consolidate to meet stepped-up global competition in their industries. As well, leveraged buy-out artists like Kohlberg have been able to make huge profits by borrowing heavily to buy control of companies and then selling off the same company’s assets and paying their debts. But the surge in takeovers has also led companies, including Canadian nickel giant Inco Ltd. of Toronto, to design complicated and expensive restructuring plans—so-called poison pills—in an attempt to stop hostile takeover attempts.
The takeover drive also raises the issue of whether the economy benefits from such manoeuvres. Last week, Alan Greenspan, chairman of the U.S. Federal Reserve Board, said that the rising use of debt-financed leveraged buy-outs could leave the economy vulnerable if a recession occurs because lenders would be saddled with bad loans, and companies that had launched takeovers would face heavy debt loads that could force them into bankruptcy.
And a decision last week to postpone a $ 1.38billion issue of high-yield, high-risk “junk bonds” designed to finance Campeau Corp.’s earlier takeover of Federated Department Stores Inc. indicates that investors’ willingness to continue to finance highly leveraged deals may be dwindling.
For now, though, the takeover campaign shows no sign of slowing down. According to Toronto management consultants HarrisBentley Ltd., the total value of major mergers and acquisitions in Canada during the first half of 1988 was $15 billion—almost as much as the $17.9 billion that occurred during all of 1987. Meanwhile, in the United States, the takeover action is running at a record $294billion pace for the first nine months of 1988.
The pool of takeover capital available to buy undervalued assets appears to be almost bottomless. American investment and commercial banks, trust companies, insurance companies and junk-bond investors are lining up to provide capital. In contrast, most Canadian merger and acquisition capital is raised through private share placements with other corporations. By taking that approach, Canadian corporations have been able to avoid heavy bank financing and debt. But the situation is changing in Canada. To finance its poison-pill hedge, Inco may have to borrow $600 million from Canadian and U.S. banks.
The takeovers will likely continue to offset an underlying stock market weakness and even help drive prices upward. In fact, David Dreman, president of the New York City investment advisory firm Dreman Value Management Inc., estimates that merger and acquisition activity may account for up to 25 per cent of trading on the New York Stock Exchange. Meanwhile, analysts say that Kohlberg’s $24-billion offer for Nabisco indicates that companies that used to be considered too big to swallow may now become takeover targets. Among the possibilities, Dreman said, are Chrysler Corp., Digital Equipment Corp. and K-Mart Inc. Recently, analysts at such major Wall Street investment firms as Bear Steams & Co. Inc., Merrill Lynch Capital Markets, Shearson Lehman Hutton Inc. and Dean Witter Reynolds Inc. issued reports that provided their customers with the breakup value of companies in the food, energy and media industries—just in case they wanted to buy or sell assets as part of a leveraged buyout. Declared Dreman: “As long as the feeding frenzy continues, anything is possible.”
The buy-out specialists say that takeovers are an ideal way of dislodging inefficient or incompetent executives and of forcing existing managers to maximize profits. But critics contend that they are merely exercises in paper shuffling that do not increase overall productive capacity in the economy. They add that concerns about a takeover may cause management to sacrifice worthy long-term goals in favor of short-term profits and financing poison pills. It is a debate that seems destined to become even more heated.
The story you want is part of the Maclean’s Archives. To access it, log in here or sign up for your free 30-day trial.
Experience anything and everything Maclean's has ever published — over 3,500 issues and 150,000 articles, images and advertisements — since 1905. Browse on your own, or explore our curated collections and timely recommendations.WATCH THIS VIDEO for highlights of everything the Maclean's Archives has to offer.