M&A in a bear market: Small deals may rule the day

When shares of telecom companies drop like a stone, investors, employees and well-optioned executives are not the only ones affected. The outlook for corporate mergers and acquisitions also changes. M&A activity will look different in the next few months - or as long as it takes the stock markets to return to bullish territory.

"There's certainly going to be a downturn in public companies as buyers - especially in older telecom sectors," said Garrett M. Baker, vice president of Waller Capital. "They have become much less aggressive because they are very conscious of doing deals that are dilutive to their earnings or multiples."

"The very large deals are in a hold mode right now," said Bruce Milne, CEO of the Corum Group. Public buyers don't want to use cheap stock and give sellers twice the amount of shares they offered a month ago, he said. In some cases, that would mean surpassing percentage of ownership thresholds, changing the level of approval needed from shareholders. Stock-for-stock deals won't feel the pinch as much, Baker said, because the value differences tend to even out.

So what's a buyer or a seller in the midst of negotiations to do? In some cases, deals are repriced and their value adjusted to reflect current comparable stocks. The price of one recent deal the Corum Group advised was repriced from $24 million to $17 million after stock in the buyer's company dropped from $50 to $17 per share.

Some sellers are more dogmatic about the asking price for their company and will wait for a market rebound. However, Milne disagrees with that strategy. "I would take a slightly lower price today [rather] than take a stock that's priced too high and watch it fall apart," he said.

For sellers, the drop in a buyer's share price can almost be welcome. For example, CoreComm, an integrated communications provider, announced a buyout of ISP Voyager.net in March. The terms of the deal called for Voyager.net shareholders to receive 0.292 shares of CoreComm common stock. CoreComm then was trading at $47.875 per share.

Under the agreement's collar provisions, the shares of common stock issued would be reduced if CoreComm's price at the deal's closing exceeded $57 per share and increased if CoreComm's stock price at closing was below $41 per share. If CoreComm's stock price fell below $33 per share, Voyager.net could terminate the transaction.

As of April 20, CoreComm was trading at 29 13/16, with the deal expected to close in mid-July. But Voyager.net executives refuse to dwell on the short-term market conditions. In fact, they're perfectly happy if the merger occurs in the $33 range.

"We're fully committed to this deal," said Ozzie deFaria, chief operating officer for Voyager.net. "The $33 range is a great target because [Voyager.net] shareholders will get a larger percentage of CoreComm stock. Ultimately, if you're long-term bullish on CoreComm, which we are, $33 [per share] is better for us."

Another slight irony is that the stock market's flop actually may stimulate small-scale M&A activity. Private start-ups unable or unwilling to access the public financial markets may have to sell. And the business development staffs of larger companies will be looking for smaller deals, executable with cash instead of stock.

"The buyers are going to be rabbit hunting instead of elephant hunting - there will be a lot of smaller transactions," Baker said.

Private entities as buyers also will become more aggressive - especially those awash in cash. "We are going to focus on finding sell-side targets - a lot of CLECs have just received a lot of private equity money," Baker said.

So while the dollar value of global mergers between telecom companies may not grow much from 1999's $686.4 billion level, deal making among the small fries could pick up.

"These firms have no option; they can't find the people or build the technology," Milne said. "They have to go out and acquire."