Industrials eye bargains as private equity fades

CHICAGO Wed Feb 27, 2008 7:24pm EST

CHICAGO (Reuters) - Large industrial companies aim to pick up the pace of deal-making this year as the credit crunch forces private equity firms to retreat, making more assets available at cheaper prices.

As lending markets remain tight and investment banks absorb the fallout from mortgage losses, private equity firms are now having a hard time borrowing money to make acquisitions.

"Prices were getting ridiculous," Dave Cote, chairman and chief executive of Honeywell International Inc (HON.N), told reporters at the Reuters Manufacturing Summit. "That's changed. Prices have become much more reasonable."

Interest from private equity firms -- who buy and sell companies using money raised from institutional investors such as state pension funds and college endowments -- had pushed takeover prices sky-high.

"Prices are coming down and a lot of public companies will be much more active acquirers," said Wayne Titche, chief investment officer at investment firm AMBS Investment Counsel. "Once sellers accept the new (lower) prices, you'll see a significant spurt in activity."

Cote said Honeywell would likely buy a few companies in the aerospace and automated control systems sectors in 2008, after pulling back from acquisitions a year ago due to high prices.

"Maybe there is a recognition now that things were frothy and people are not going to get those prices anymore," he said.

Private equity companies typically aim to hold a business they acquire for a few years, cut costs and then resell them at a profit.

Of a record $4.3 trillion in global merger activity in 2007, private equity accounted for nearly 16 percent. That number is widely expected to drop this year, with takeovers no longer fueled by easy access to credit, opening up avenues for corporations, or "strategic buyers" as they are known.

EXIT SALES

Illinois Tool Works Inc (ITW.N) Chief Executive David Speer said the company's acquired revenue could top $1.2 billion in 2008.

In some cases, the buyout firms that bought a company a year or two ago may be turning around to sell the target, in deals called "exit sales."

Speer said larger assets could also become available due to exit sales, allowing ITW to do larger deals than its average acquisitions of about $25 million each in the past two years.

"The lack of larger deals has been primarily impacted by private equity and what they've done with valuations," Speer said. "I would expect that with the change in their leverage and cost of funds that that would change going forward ... valuations would decrease."

In 2007, ITW made 50 small acquisitions, paying 7.5 times earnings before interest, or EBITDA -- a measure of cash flow -- for that group of businesses.

Last year, buyout firms paid more than eight times EBITDA, higher than the historical average of about six.

Speer said the diversified manufacturer, which had a pipeline of deals worth $1.3 billion, would likely buy 40 to 45 companies this year. He added that ITW typically closes 60 percent of the deals in its pipeline.

General Electric Co's (GE.N) infrastructure unit will also likely make several acquisitions in the power storage, power management and control systems sectors in 2008.

John Rice, a GE vice chairman who is also CEO of GE's largest unit, said this was a "good time" to be making deals.

"Certainly some of the crazy prices should be less crazy," he said. "There is going to be a value on synergy so strategic buyers like ourselves can truly take advantage."

Rice said the unit had a pipeline of 20 to 30 companies and that it would likely engage in several $300 million to $500 million bolt-on acquisitions this year.

NO CANDY STORE YET

Seaspan Corp (SSW.N) Chief Executive Gerry Wang said he expected prices to fall further, leading to consolidation in the container shipping industry.

"My gut feeling is that this is just the start of a dramatic change, there will be opportunities for sure," Wang said, calling the company a "bargain-hunter." He added that he thought "there will be more bargains to come."

Wang said the credit crunch would in particular hit smaller companies that overextended themselves and now had no access to fresh capital.

"I think there will be some fire sales. That is why we are patiently waiting," he said.

Josh Rothe, director of equity research at SKBA Capital Management, said: "We're not in a candy store yet. It's there, it's better than it was a while ago, but I don't think there are screaming bargains (yet)."

(Additional reporting by Chelsea Emery in New York; Editing by Braden Reddall)

(For summit blog: summitnotebook.reuters.com/)

(For more on the Reuters Manufacturing Summit see <ID:nN25228243>