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Corporate Mergers: How Big Is Too Big?

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While mergers between utilities are typically successful, similar deals in other industries tend to disappoint. That checkered past is worth keeping in mind, as the flow of new deals appears to be ramping up.

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Since Thomas Edison threw the first switch in the late 19th century, there have been literally thousands of mergers between electric utility companies. Not one has failed to create a stronger entity.

It's the rare industry, however, that can claim anything close to that. Rather, market history is replete with examples of highly touted deals that quickly went south. AOL (NYSE:AOL)/Time Warner (NYSE:TWX), Sprint/Nextel (NYSE:S), Daimler Benz (PINK:DDAIF)/Chrysler, Worldcom/MCI and Lucent/Alcatel (NYSE:ALU)–the list goes on and on of high-profile deals that began with great promise and even greater hype, only to fail spectacularly once key assumptions proved wildly off base.

Even so, that checkered history hasn't caused companies to stop pursuing new deals. In fact, the fourth quarter will feature several major tie-ups across a range of industries. Such action has spurred further speculation that even more deals are in the offing.

It's entirely possible that forecasts of an increase in deal flow will prove accurate. The combination of conservative financial policies resulting from the downturn along with historically low borrowing rates means that companies are in their best shape in decades to consider deals. Meanwhile, the plodding economy has put pressure on corporate executives to boost profits in other ways, and cost-cutting by adding scale and eliminating overlap is a time-tested way to accomplish that.

By and large, the Obama administration has approved most corporate mergers, just as previous White Houses have. But they've also chosen to use their leverage as gatekeepers to impose conditions on deals to address antitrust concerns.

The notable exception in essential services sectors is, of course, AT&T's (NYSE:T) bid to buy T-Mobile USA from Deutsche Telekom (PINK:DTEGY) last year. Rather than negotiate conditions, the Department of Justice and Federal Communications Commission (FCC) made it clear they saw a marriage between the second- and fourth-largest wireless companies as creating too much asset concentration. That, in turn, convinced AT&T to abandon the deal to avoid facing a further protracted battle.

Should Republican presidential candidate Mitt Romney win the White House in November, the 3-2 Republican FCC majority he'll appoint to replace Obama's current 3-2 Democratic majority may be more accommodative to mergers of large companies. But even if the incumbent is re-elected, the FCC is likely to approve T-Mobile's latest merger move: An offer to buy MetroPCS Communications (NYSE: PCS).

This deal would unite two of the larger players in the prepaid wireless market. This is basically the low end of the market, and profit margins are considerably more compressed than they are for the high-end contract business increasingly dominated by AT&T and Verizon (NYSE: VZ). But joining forces will afford T-Mobile USA an opportunity to expand its business by increasing scale in a faster growing business than contracts.
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