Conglomerates were bigger than the Beatles in the 1960s. A combination of low interest rates and strong stock markets allowed companies to buy companies to engage in numerous leveraged buyouts and acquisitions. Famous examples include:
- ITT Corporation
- Litton Industries
- Gulf and Western Industries
What catalyzed all this rapid purchasing? The yield on the target company's profits were greater than the cost of the loans—increasing earnings of the acquiring company.
Sound familiar? It should. We've been a broken record about this. (See our past commentaries: "Privatizing Profits", "Back to Parity" and "Not all Destruction is Created Equal"). Today, the yield on earnings for all major markets around the world is currently higher than their respective costs of debt.
So, why haven't we seen a new age of conglomerates yet?
Executives were extremely risk averse in the first years of this decade: bad press, abundant corporate scandals, punitive legislation like Sarbanes Oxley, the brief recession, and the bear market in equities all caused companies to batten down the hatches. As a result, most companies were reticent to make acquisitions and capital investments. Today, some of that risk aversion has waned. Executives are slowly becoming bolder and more confident. Through time, they have graduated up the risk spectrum from increasing capital expenditures to share repurchases to buying smaller businesses with operations very similar to their core operations. As executives become bolder still they will increase both the size and scope of acquisitions.
Global M&A activity hit new records in 2006—and all the pieces of the acquisition puzzle are still in place this year. It's just a matter of time before executives get more aggressive and even bigger deals start getting made.
This trend is likely to last longer than most people expect. The 1960s Age of Conglomerates continued until near the end of the decade, where interest rates began rising along with inflation. Today, both long term rates and inflation are benign and earnings yields are high. Can a new age of conglomerates be far behind?