Excerpt from our One Page Annotated Wall Street Journal Summary (receive it by email every morning by signing up here):
AHEAD OF THE TAPE: Hollow Legs
Summary: Investors appetite for newly minted bonds is feeding the leveraged-buyout [LBO] boom. In August companies issued $58.4 billion in bonds, compared to $51.5 billion in August 2005. Over $200b in deals to take companies private have been announced this year. The buyouts, which are financed largely by debt, account for nearly a quarter of U.S. mergers & acquisitions this year; in 1988, a peak-year in the '80s LBO boom, buyouts were only 14% of M&A action. Bonds of firms acquired in LBOs are considered risky. Typically, bond investors might demand higher yields, but they haven't. If this trend continues, private-equity firms may be encouraged to begin bidding-up the values of bigger companies, confident the bond market will help finance their offers. WSJ bottom line: "Stock-market valuations for small and midsize companies are historically pricey compared with big companies, in part because investors see little chance of the big guys getting taken private. By the end of the year, they may be proven wrong."
Comment on related stocks/ETFs: Some companies that have been suggested on Seeking Alpha as potential targets for LBOs: Aetna Inc. (NYSE:AET), Lexmark International Inc. (NYSE:LXK), Blockbuster Inc. (BBI), Thomson (NYSE:TMS), Kirkland's Inc. (NASDAQ:KIRK), and Centex Corp. (CTX). In a recent conference call, Cendant (CD) CEO Henry Silverman was asked about the possibility of a LBO. His response, "Our advisors don’t think at current levels, even with a normal premium, that there’s enough capital in the world to affect an LBO. The funding hole is too big, and therefore the ability of doing an LBO at prices that our board would accept and at which we would get a fairness opinion is really not an available option." If you buy-in to the WSJ's conjecture, the landscape may be changing soon.