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Saturday, 6 March 2010

With Fistfuls of Cash, Firms on Hunt

by Jeffrey McCracken and Tom McGinty

Companies Begin to Tap Record Capital Piles for Mergers; Walgreen Says It May as Well Spend It

One year removed from the trough of the recession, American corporations continue to hoard more cash than ever. There are now tentative signs that they are finally comfortable using the money to do some shopping.

The 382 nonfinancial firms in the Standard & Poor's 500 that have reported results for the fourth quarter of 2009 are now holding $932 billion in cash and short-term investments, according to a Wall Street Journal analysis of data from Capital IQ. That sum is up 8% from the third quarter and up 31% from a year ago.

At a time of low interest rates, reopened credit markets and growing optimism about the economy, CEOs and their boards seem to be questioning the wisdom of sitting on all that cash. And with the S&P 500 still trading 29% below its October 2007 peak, companies are deciding cash is their preferred currency for acquisitions -- rather than shares they see as undervalued.

Through the first two months of the year, the percentage of all-cash deals in the U.S. more than doubled from 2009, according to an analysis by Thomson Reuters. Nearly 50% of deals this year have been all-cash offers, up from 24% of deals in 2009 and on par with 2006 and 2007, when credit was in oversupply.

"We are sitting on a lot of cash and generating a lot as well," said Wade Miquelon, chief financial officer of drugstore chain Walgreen Co. (WAG), which last month spent $618 million for the New York City drugstore chain Duane Reade. "Sitting around on all that cash and have it earning very little interest really does not make a lot of sense."

Like a lot of U.S. companies, Walgreen cut costs during the past year, in its case halting store openings and reducing inventory. Mr. Miquelon said the moves saved the company about $2 billion in cash -- freeing up money it later used in the Duane Reade deal. "We are conservative with our cash, but hoarding it right now isn't probably the best use of it," he said.

That wasn't the corporate approach for the past two years. As the economy suffered in 2009, corporate executives assumed a defensive crouch, cutting jobs and capital spending, waiting to survive the storm.

Alcoa Inc. (AA), for example, pegged top executives' 2009 compensation to goals for increasing the company's stash of cash, according to regulatory filings. The aluminum maker cut 28,000 jobs, or 32% of its work force in 2009, and reduced capital expenditures by 53%. Despite a 31% drop in revenue, Alcoa nearly doubled its cash to $1.5 billion during the year.

The cash hoard may also be untenable to institutional investors worried the cash is being used as a buffer to insulate management from bad decisions or a sign that CEOs can't figure out what to do with it all.

Value investor Benjamin Graham lamented in 1949 that "the typical management will operate with more capital than necessary, if the stockholders permit it -- which they often do."

That management-shareholder tension may explain why recent months have brought a bump in share buybacks and increased dividends, according to data provided by Thomson Reuters and S&P.

There were 62 announced share buybacks valued at $40.1 billion in February, the biggest month for announced buybacks since September 2008. S&P estimates buybacks were up 37% in the fourth quarter from the third quarter.

For the past three months, there were 79 dividends increased and two reduced, compared with 58 and 41 for the same period a year ago, according to S&P.

Yet the most visible use of cash is coming in the mergers arena.

When taking into account all the money spent on deals, 55% of the consideration during 2010 has come in the form of cash. That number was 40% in 2009. The highest figure during the past decade was 57% in 2007, at the height of the leveraged-buyout boom, according to Thomson Reuters.

"In many cases, if you use cash for share buybacks or dividends you are signaling to the market you don't have a better use for the cash," said Paul Parker, Barclays Capital head of global M&A. "For most CEOs, that message is the last one they want to send."

Among the all-cash deals to be completed this year: Bank of New York Mellon Corp.'s $2.31 billion purchase of a PNC Financial Services Group Inc. division, and Diamond Foods Inc.'s (DMND) $615 million purchase of Kettle Foods Inc. last week. Other all-cash offers made this year, but not completed, include Air Products & Chemicals Inc.'s $5.12 billion hostile offer for Airgas Inc. (ARG) and hedge fund Elliott Associates' offer this week to acquire technology provider Novell Inc. (NOVL) for $2 billion in cash.

"The specter of late 2008 was still fresh in our minds, but we felt more comfortable using cash now because we are seeing some positive signs of where the economy is going," said Sal Ianuzzi, chief executive of Monster Worldwide Inc., which on Feb. 3 announced plans to acquire Hotjobs.com from Yahoo Inc. for $225 million in cash.

The online job site was sitting on $250 million in cash, had access to about $300 million in a credit line and felt like it could get even more if needed.

Mr. Ianuzzi said that he and other CEOs also expect their shares will move higher so it is better to use cash now for deals.

"Our view about the economy also makes us think our stock is undervalued. So you take what your shares trades at now ... and you compare that to the cost of cash and financing that cash. For us, it was pretty easy decision to go with all cash," he said.

There is another fear lurking inside boardrooms: That cash left on a balance sheet may be a target for shareholder activists.

Elliott, in its offer Tuesday for Novell, cited the $1 billion in cash on Novell's balance sheet as part of the reason for its offer. Elliott could use Novell's money to help fund its acquisition.

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