With traditional mergers and acquisitions at a standstill, even Warren Buffett is keeping an eye out for deals born in bankruptcy court.
By Julie E. Satow
September 2002
Institutional Investor Magazine
Even before WorldCom sought Chapter 11 protection in late July, the sharks were circling. AT&T Corp. and Sprint Corp. were considering ways to pick off customers of the giant’s MCI division, the second-largest long-distance carrier in the U.S. That, of course, was normal competitiveness, but there’ll soon be actual assets up for grabs.
WorldCom’s is the largest bankruptcy in history, but it has plenty of valuable properties: wireless operations in Latin America, which, sources say, are on the block; MCI; UUNet, the nation’s largest Internet backbone; and more. Just because WorldCom is tainted by scandal doesn’t mean its assets carry any stigma. Nor, for that matter, do the real assets of Enron Corp., Polaroid Corp. and many other corporate deadbeats. Buying the assets of severely troubled companies has become a growth business.
Even Warren Buffett is getting into the act. Buffett’s Berkshire Hathaway has already snapped up financial services company Finova Group and underwear maker Fruit of the Loom. “When Warren Buffett makes a bid for Fruit of the Loom, you see name-brand American companies being bought by equally blue-chip buyers,” says Saul Burian, co-head of distressed M&A at bankers Houlihan Lokey Howard & Zukin, which is advising Enron’s creditors. “The stigma is no longer there.”
There is a dearth of traditional M&A opportunities this year as buyers husband their balance sheets. Desperate for business, bankers are turning to the bankruptcy courts for cheaper pickings. Through August 15 there were 187 Chapter 11 M&A deals -- 4 percent of all deals, or more than double the rate of 2001, according to New York research firm Dealogic. Should that pace continue, 2002 could see the highest number of bankruptcy-related acquisitions ever.
There are advantages to buying under Chapter 11, says Kevin Genda, who heads the bankruptcy M&A business at Cerberus Capital Management, a special situations investment firm that has $8.5 billion under management. He favors looking to the bankruptcy market for acquisition targets because the Chapter 11 process forces transparency of an entity’s assets and liabilities. “The benefit of buying bankrupt assets is the clearer picture of how the company operates from a liability standpoint,” Genda says.
There are other levers that facilitate M&A deals. To get their claims paid, creditors are often more willing to split up assets. Whole classes of liabilities, like stockholders’ equity, are wiped out or drastically reduced in Chapter 11. “The bankruptcy process has tools for creating value,” says Houlihan’s Burian. There are also barriers to entry. “Acquirers who can maneuver within the bankruptcy process have a tremendous advantage in their ability to uncover and exploit investment opportunities,” says Leonard Goldberger, a partner at law firm White and Williams.
Most important, bankruptcy makes for a buyer’s market. In July energy company Dynegy sold Northern Natural Gas Co. to Buffett for $1.9 billion to stave off Chapter 11. Dynegy had bought it from Enron for $2.5 billion just eight months before. Says Harvey Tepner, who runs the restructuring group at Loeb Partners Corp., a boutique investment bank: “Bankruptcy provides a dose of reality that makes all parties more willing to wheel and deal. Everyone’s expectations of recovery are ratcheted down.”
In times like these, that’s music to an investment banker’s ears.
Bargain hunting
In bankruptcy there is profit. As the rest of the mergers and acquisitions market continues to shrink, bankers are looking to bankruptcy courts for deals. Creditors will settle for less , and do so faster ,with less haggling. So far this year acquisitions out of bankruptcy are running at a pace more than double that of 2001 in percentage terms. Below are the top ten deals through August 15, 2002.
Transaction value Announced
Acquirer Target ($ millions) date
General Electric Capital Corp. Comdisco $665 1/14/02
Nucor Corp. Birmingham Steel Corp. 615 2/14/02
Gray Comm. Systems Stations Holding Co. 500 4/1/02
Investor group Republic Technologies International 450 4/24/02
WL Ross & Co. LTV Corp. (integrated steel assets) 394 2/27/02
GE Power Systems Enron Wind Corp. (turbine manufacturing) 342 2/20/02
Leucadia National Corp. Williams Comm. Group (45 percent) 330 7/26/02
Clean Harbors Safety-Kleen Corp. (chemical services div.) 311 2/25/02
Bank One Corp. Polaroid Corp. (65 percent) 255 4/18/02
Stop & Shop Cos. Big V Supermarkets 255 1/21/02
