Buy Out or Sell Out?

From tiny acquisitions to massive conglomerate combinations, Wall Street's urge to merge remains strong. Some of these deals might generate sought-after synergy, but others could create what Peter Lynch called diworsification -- 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 105,000 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 rating for each participating company on CAPS' five-star scale:

CAPS ratings courtesy of Motley Fool CAPS; NR = not rated.

A bear of a time
Although we've seen a number of deals pending, the first quarter's $736 billion is the smallest global dollar value amount in six years. Still, the total number of deals is up 14%, to more than 9,100 deals. Although volume in the U.S. is down 41%, Russia and China have taken up some of the slack. Nevertheless, this week we've seen a significant drop in the number of deals.

No static likely for this union
Independent power generators are not regulated by the states, like utilities are. With market-based pricing open to them, they're free to use the run-up in energy prices to juice their bottom lines. It's a welcome situation for producers like NRG and Calpine, both of which have been through the bankruptcy wringer after building too many power plants. Now a surging need for electricity generation has made these facilities more economical.

A combined NRG-Calpine entity would have some 45,000 megawatts of generating capacity spread across the country, making it the largest independent power producer. Yet it's also going to force NRG to shed some of its operations in Texas, which has a cap on just how much of the market any one company can control. The merged company would own 24% of the market, but Texas law caps ownership at 20%. Which facilities would ultimately be sold off has yet to be determined, but with a presence in coal-fired, gas-fired, and geothermal plants, the forced divestment of about 4,000 megawatts shouldn't impede the company's progress at all.

Even before the merger news, investors felt that the post-bankruptcy Calpine was a worthy investment. With rising energy prices, a financial house in order, and an attractive price, investors like CAPS player sssenator saw opportunity:

Buy low, Sell High. This company has just made their way out of the valley of the shadow of bankruptcy. Natgas prices are on the rise, decent balance sheet and a good P/E ratio. I'd expect them to work their way up to their old time prices within a few years.

Now that the offer has been made public, others like leebern see the potential emergence of a premier energy play:

Strong company by itself post-bankruptcy. Poor credit rating is offset by a low P/E ratio, large sums in the bank, and potential merger with NRG to make it the largest independent power company in the country.

A value-added offer
What's your take on these deals? At Motley Fool CAPS, your opinion as valuable as the pros'. Tell the CAPS community whether the urge to merge is good to go -- or whether you think it's better for the firms involved to remain independent.