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BEST BUY CO (NYSE:BBY)

Market capitalization: $11.82 billion

Dividend: $0.60 (2.00%)

The electronics retailer has been a dominant force in its niche but continues to struggle against dual headwinds. On the one hand the company's consumers have reduced spending capacity because of rising costs like food and fuel. On the other hand, rising input costs have pressured Best Buy's margins as online competitors like Amazon grab market share in part because of their regulatory tax arbitrage. These factors along with the weak economy have had a negative effect on the business. For example, from 2006 to 2010, revenues increased from $30.848 billion to $49.694 billion. While sales grew, operating margins stumbled in the last two years from around 5.5% to around 4.5%.

While we discuss Sears Holding as the most likely retail acquirer in "More on Possible Eddie Lampert/Sears Holdings Buyout Candidates," we think there are also strategic partners like Microsoft, Dell or Hewlett Packard that could significantly benefit from acquiring Best Buy. At current valuations, Best Buy provides some margin of safety. It has a forward P/E of 8.14 and an EV/EBITDA of 3.79. In addition, the company's store leases could provide some opportunities if the company finds ways to optimize store space.

Going forward, while Best Buy has build a strong reputation and a valuable store footprint, we will need to see further weakness in the stock or a clear cut near term catalyst before we purchase shares.

GAP INC (NYSE:GPS)

Market capitalization: $13.05 billion

Dividend: $0.45 (2.00%)

The stock has stalled for the last several years, but it is only a matter of time before this stock catches the eye of a value oriented activist shareholder. The company is one of retail's premiere US brands but trades at shockingly low valuations. They have a forward P/E of 10.69, a price/sales of 0.88 and an EV/EBITDA of 4.30. Despite the valuations, the company is an attractive business with profit margins of 8% and return on assets of 16%.

The Fisher family's large stake may be an impediment to hostile shareholders, but it is worth noting that Eddie Lampert reported a 5.8% position in Gap Inc last quarter.

We are concerned about the company's continued willingness to leverage the balance sheet to repurchase shares in spite of declining same store sales even as the rest of the industry faces improving trends. While this is theorectically a prudent move because the stock is undervalued, we think it distracts management and investors from the underlying problems in revitalizing the brand. We would likely purchase shares on weakness just based on the international opportunities in Asia, the strong brand value and cost cutting opportunities inherent with their overstretched stores.

NOKIA (NYSE:NOK)

Market capitalization: $32.23 billion

Dividend: $0.46 (5.10%)

The world's largest cell phone manufacturer has struggled recently with declining revenues and margins. The company directly faces competition from Samsung, but more importantly, Android and Apple (NASDAQ:AAPL) based smart phones are making it difficult to grab market share among smart phone users. While Nokia continues to release phones on their Symbian platform, they have also agreed to a potentially industry changing venture with Microsoft (NASDAQ:MSFT) to develop phones based on the Microsoft software. A success here could change the smart phone market, which to this point has been dominated by Android and Apple phones. Nokia may also further benefit from reports that Apple is delaying the release of their iPhone 5 because of component shortages related to the Japanese disasters.

While the Microsoft venture is an arms length relationship, under extreme situations, Nokia could become an acquisition target. If the Microsoft/Nokia partnership runs into delays and causes Nokia's stock to decline, it's possible that Microsoft would step in to acquire Nokia at a reasonable price. On the other end of the spectrum, if the joint venture is extremely profitable, Microsoft may consider protecting its interests by acquiring Nokia and using their expertise as a basis for future growth opportunities.

ACTIVISION BLIZZARD (NASDAQ:ATVI)

Market capitalization: $13.06 billion

Dividend: $0.17 (1.50%)

The gaming industry landscape has changed significantly with the popularity of tablets and smart phones, but Activision Blizzard has several strong franchises and they could ultimately be an attractive acquisition candidate. Microsoft's entertainment and devices division currently generates around $8 billion of the company's $63 billion in sales. Acquiring Activision Blizzard could be a good way for Microsoft to expand and diversify its business.

CONOCOPHILLIPS (NYSE:COP)

Market capitalization: $112.61 billion

Dividend: $2.64 (3.30%)

The integrated energy company could be vulnerable to acquisitions because of its cheap valuation and improving cost structure. The company's forward P/E is 8.82 and the price/sales is 0.64.

ConocoPhillips may have the ultimate credibility as an affordable acquisition target with Berkshire Hathaway (NYSE:BRK.A) as one of the company's largest shareholders with 29.1 million shares. While we think that the weak US dollar makes COP an attractive buyout candidate for foreign investors, we think that Investors' perceptions of COP are largely dependent on their view of oil and gas prices. If you are bullish of energy prices, you may want to take a closer look at COP.

TYCO INTERNATIONAL (NYSE:TYC)

Market capitalization: $24.73 billion

Dividend: $1.10 (2.30%)

The Wall Street Journal is reporting that France's Schneider Electric SA made a preliminary acquisition bid for approximately $30 billion. While the investment community is generally skeptical of Schneider's ability to pull off the deal, Tyco has traded higher since the news broke and Schneider has traded lower even though Schneider is denying the story. The irony of course is that Tyco built itself through numerous acquisitions.

We are bullish on Tyco International shares even at these levels. Not only have there been reports in the Wall Street Journal of a potential $30 billion deal, even if the deal falls through, this chain of events could effectively put Tyco in play. With a 2012 forward P/E of around 11, Tyco currently provides a great opportunity as a cheap stock with a structural advantage because of its tax rate and possible near term catalysts if the company really is an acquisition target. Tyco could be sold as a whole or as individual businesses. United Technologies paid GE $1.8 billion for a segment with $1.2 billion in revenues. Based on United Technologies' purchase of General Electric's security division at trough revenues, Tyco's ADT segment is worth $11 billion to 16 billion on its own.

POTASH CORPORATION OF SASKATCHEWAN (NYSE:POT)

Market capitalization: $48.32 billion

Dividend: $0.29 (0.50%)

In November 2010, BHP Billiton (NYSE:BHP) withdrew its $38.6 billion takeover offer for Potash after resistance from both Potash's management and the Canadian government. While governmental issues will likely remain an impediment, the attractiveness of the Potash assets should continue to draw interest from foreign investors betting on the world's growing demand for land productivity.

Source: 7 Dividend Paying Buyout Targets for 2011