Buy Out or Sell Out?

From tiny acquisitions to massive conglomerate combinations, the urge to merge remains strong on Wall Street. Some of these deals might generate sought-after synergy, but others could create what Peter Lynch called "de-worse-ification" -- weakening a business's core competency by grafting on wildly unrelated subsidiaries. How can we tell the good deals from the dealbreakers?

Breaking down the buildup
To help, we'll turn to the 79,000 investors in Motley Fool CAPS. A combination of two companies with high CAPS ratings should bode well for the new firm's future results, while a high-rated company that joins a lower-rated one may benefit one set of investors more than the other.

Despite troubles in the capital markets, the deals won't stop; they simply might involve more stock and less cash. Here's a handful of recently announced deals, and the ratings for each participating company on CAPS' five-star scale:

While worldwide merger activity rose in November to $286.1 billion, U.S. deal volume declined 73% from a year earlier to $51.1 billion, bringing it back down to the lows reached in August and September. Deals are getting harder to come by, as we saw last time. Still, as the credit crunch deepens, a number of investors are looking to back out of deals that were previously announced. Private equity may soon have to prove to boards of directors that it won't be backing out of acquisitions when things get tough. Also, between Christmas and New Year's, we didn't expect there to be much activity.

So what do CAPS investors think about these targets and acquirers? These deals are relatively small, and investors have a middling opinion, at most, on just one of them, Allscripts. However, let's look at the Trans Meridian deal and see if we can't find out why the target rates only two stars out of five.

A slick acquisition
Having reserves in oil-rich Kazakhstan can be profitable, but only if you have the means to actually get the oil you pump out of the ground to customers in an efficient manner. Although it is seemingly able to pump enough oil to be profitable, Transmeridian has had to sell that oil at below-market prices because it didn't have a cost-effective way of exporting it. While the company has said it's working on a "proprietary export pipeline connection," it hasn't yet turned a profit. Relying on sky-high oil prices, Transmeridian seems to be clinging to solvency by a thread.

Still, the Kazakhstan assets have been attractive, and the company reported in November that it was in active negotiations with prospective buyers. Later, it was reported that CNOOC (NYSE: CEO) and Sinopec (NYSE: SHI), both Chinese firms, had expressed interest in buying the company.

That was all apparently made moot when Transmeridian announced that its board had agreed to be taken private for $350 million in a deal from Trans Meridian, a company formed by its own CEO, Lorrie Olivier. Interesting, but the buyer doesn't have the financing in place yet, so the oil company will still be able to solicit competing bids until that happens. With the CEO offering $3 a share, but shares trading at just $2 a stub, one wonders whether investors think this deal will go through at all.

Nearly 150 CAPS players have rated Transmeridian, with 82% of them viewing it as an outperform. CAPS All-Stars, those players with the best investing records, are less enthusiastic, with just more than two-thirds betting on outperformance.

Top-rated Hibachi0, with a 99.86 player rating, gave a detailed explanation last summer of his reasoning on why Transmeridian should ultimately prove successful. In particular, he gives the nod to concerns over Russia's growing influence because of its oil reserves, citing this as a reason why an independent Kazakhstan will gain favor in Europe and elsewhere:

What is especially interesting about Transmeridian Exploration is how Europe wants to move over to another source for importing oil, fearing dependence on Russia will [make] then vulnerable. Kazakhstan fits the bill perfectly. This will bring (and has, look at Chevron with 20% of reserves in Kazakhstan), the western oil companies, sending the price of oil fields up. Then throw in India and China. Each has an insatiable demand for oil and needs a closer provider that can deliver oil and gas by pipes, not by tankers, which are themselves becoming more expensive. Also, given Chinese dependence on IRANIAN oil, though not confirmed, I would believe China would want a "Plan B," if something happens. Look at the oil fields now in IRAQ. It is still there, but no one can get it because Saddam blew up the pipe lines as his army retreated. It will take BILLIONS of dollars and many years to get IRAQ up to speed..

You can read the rest of Hibachi0's detailed top bull pitch here.

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