With many companies sitting on record levels of cash, following last year’s record $90 billion in capital raisings, the sharemarket looks primed for a significant boost in merger and acquisition (M&A) activity this year. Adding momentum to a pending upswing in corporate activity is strong interest from offshore, notably China.

There is plenty of foreign investor interest in Aussie resources and other key infrastructure assets.

Dominating the Australian M&A sector in 2009, foreign investors were involved in all seven of the billion-dollar-plus public takeovers and schemes of arrangement (SOAs) – four of which were in the resources sector.

Despite suggestions that China plans to cool its growth to curb inflationary pressures, its 131 SOEs – which delivered combined revenue of 12 trillion yuan in 2009 – have been encouraged to pursue global M&A activity this year.

According to Wilson HTM’s resources business director, Keith Williams, any downturn in commodity prices will only galvanise China’s interest in acquiring quality Australian assets. He expects these to include resource stocks like Iluka Resources (ILU) Whitehaven Coal (WHC) and Citadel Resources (CGG). Australia’s remaining steel makers, OneSteel (OST) and BlueScope (BSL) are also expected to attract both Indian and Chinese buyers.

But resources aside, Ewen Crouch co-head of M&A with Allens Arthur Robinson expects much of this year’s M&A activity to be within financial services, technology, media and telecommunications sectors, with REITs and property markets also expected to attract the eye of both domestic and foreign investors. Adding to the mix of deals this year is Qld state government plans to float its $7 billion rail coal transport business, and plans by the NSW state government to sell off power assets worth up to $6 billion.

And with less debt available, Crouch expects cash and scrip to play a much greater role in M&A activity this year. Although thin on the ground last year, memorable deals included Macquarie Communications Infrastructure Group’s $1.37 billion sale to Canada Pension Plan Investment Board, the sale of OZ Minerals (OZL) key assets to China Minmetals, and Eldorado Gold Corporation’s (EAU) acquisition of Sino Gold Mining Ltd.

Less memorable deals within the financial sector saw ANZ pay $1.76 billion for full control of its wealth management joint venture with ING Australia. And NAB acquired wealth manager and insurer Aviva for $825 million, while paying $99 million for 80.1 percent of Goldman Sachs JBWere’s retail wealth management and broking business. But the mega-deal of the year was the merger of the WA-based iron ore assets by BHP Billiton (BHP) and Rio Tinto (RIO) into a 50:50 joint venture with an enterprise value of $US116 billion.

So exactly what sectors and stocks look ripe for takeover, and who is going to do the acquiring? Daniel J Rolley equity analyst with Atom Funds expects much of this year’s M&A activity will be the preserve of the cashed-up stocks with healthy post-recapitalising war chests or the majors that banks are prepared to lend to. With a net gearing of just 12 percent and a pending war chest of $US10 billion-plus, all eyes will be on what BHP plans to eyeball for future acquisition. There’s early speculation that BHP will go after something big, and Woodside Petroleum is seen as an obvious target.

On a smaller scale, another cashed-up stock quick to acquire this year is Ramsay Health (RHC) which will pay $142 million to expand in France, and is currently evaluating a number of expansion opportunities elsewhere in Europe.

Another cashed-up stock primed for acquisitions, adds Rolley, is New Hope Corporation (NHC). He expects its thermal coal assets, and 18 percent stake in Arrow to attract Chinese buyers. “And given where it’s currently trading, any acquirer could be paying a cheap multiple for the underlying business once the cash is striped out,” says Rolley.

On the flipside, he says it’s their smaller counterparts with stretched balance sheets that look increasingly vulnerable to takeover. He expects large-caps trading on significantly higher multiples to pick off their small-cap counterparts, and cites mining services stock Industrea (IDL) as a likely takeover target.

Trading on a 2011 P/E multiple of 6x, Rolley says Industrea is likely to attract larger peers trading on multiples of up to 20x. He says the amount of scrip in free-float should also make Industrea an easier target, and expects any deal to be completed with a combination of scrip and cash.

He also expects companies with weaker balance sheets that badly need cash to be easier takeover targets within the current market. “But there’s a risk that companies issuing excessive new scrip will dilute shareholder value. And given the current market’s appetite for profit-taking, investors would be well served to lock-in gains early, while retaining a core holding,” says Rolley.

According to Roger Leaning research head at RBS Morgans Stockbroking, this year’s acquirers will be looking for strategic value opportunities displaying solid business models that due myriad reasons – like underperforming management, limited capital or poor economies of scale – might be trading below net present value. “You could throw a blanket across any stocks under the $1 billion level as potentials for takeover, but the likely targets could be in capital goods, domestic manufacturing and financial services,” advises leaning.

While Leaning doesn’t recommend chasing stocks on strength of a ‘M&A hunch’ alone, he sees the coal seam gas (CSG) space is an obvious sector for future corporate activity. And while stocks like Arrow and Bow Energy may look ripe for takeover, he says the great unknown is when.

Similarly, he says any number of pure-play resource stocks – notably iron ore stocks in WA, copper stocks or coal stocks in Queensland and NSW – will look especially attractive to buyers in China. “In the mineral sands space, the cost of exploration and stgelopment at this stage of the cycle makes acquiring a stock like Iluka a more attractive proposition for Chinese buyers, especially given its increased demand for zircon,” says Leaning.

While Newcrest Mining (NCM), Equinox Minerals (EQN), Sandfire Resources (SFR), Whitehaven Coal (WHC) and Santos (STO) are frequently talked about as potential takeover targets, Leaning says Suncorp (SUN) also looks ripe for acquisition, especially given its stressed asset exposures.

M&A activity the market is already privy to this year includes notables like: The acquisition of AXA by either AMP or NAB, the proposed split of Macquarie Infrastructure Group (MIG) into Intoll and Macquarie Atlas Roads, the $1.5 billion offer by Chinese suitor Bright Foods for CSR Ltd’s (CSR) sugar business, and Pacific Equity Partners $2.75-a-share bid for Energy Developments.

Meantime, shares in IOOF Holdings Ltd (IFL) jumped 43 cents to a 23-month high following a report that that ANZ was about to make a bid. According to Rolley, investors should be wary of trying to capitalise on M&A upside after much of the upside is already price-in. Nevertheless, he says the fortunes of TPM Telecom (TPM) – which rose 1048 percent last year following a string of acquisitions – illustrates the potential upside from backing stocks wired to a growth-by-acquisition strategy.

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