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Merger Mania: House of Cards May Collapse

February 15, 1987|JOHN F LAWRENCE

The catch-phrase that's been floating around Wall Street in recent times is "mark to market." It is a bit of jargon that attempts to excuse as rational the merger and takeover mania that has been gripping both the stock market and the economy for the past several years.

Considering last week's revelations about insider trading, taking the scandal well beyond one big investment banking firm to at least two others, it is time to raise a major question about just how rational is this current market and the merger mania it helps to foster.

The question involves more than illegal insider profits. It also involves that catch-phrase, "mark to market," and how badly the concept may be inflating stock prices and setting us all up for another big letdown.

"Mark to market," as the investment banking community and some of the big corporate raiders use it, simply means getting full value today in terms of cash or the price of the company's stock for a company's business. Hence, when oil company stocks were depressed, shareholders weren't able to cash in immediately on the value of the company's untapped oil reserves.

People like T. Boone Pickens Jr. came along, promising to take over such companies. He contended that they were being mismanaged and promised to get some of that value to shareholders right away by spinning off some of the parts.

The idea snowballed. It came to mean that any sensibly managed company should be looking for ways to cash in on its real value today rather than over a longer pull. Thus, individual operations, even whole companies, should be sold quickly.

Rational as that sounds, it is a badly flawed bit of reasoning. For one thing, it is like advising a homeowner that because the home has increased in value, it should be sold now to cash in on the appreciation. Never mind whether that happens to fit with the owner's other plans.

Translated into a business situation, it requires that a company sell regardless of whether the company might just like to stay in that business instead of cashing it in and then being forced to buy something else.

A real estate agent giving a homeowner such advice would be suspected of trying to drum up business. Strange that when the same advice is given by the merger specialists on Wall Street, who stand to benefit from the huge fees they can collect, they aren't suspected of the same thing.

For a time, it might have appeared that fees alone were the attraction. Now, as the insider trading scandal grows, the smell of stock manipulation begins to permeate. More than before, it also raises the specter of some past scams on Wall Street that worked for awhile and then produced disastrous results.

For what is going on with the "mark to market" rubbish is not basically different from the artificial bidding up in stock prices that took place in the 1960s. Then the device was one company with a hot stock going after another, paying a high price but paying it in stock.

In short, one inflated stock was used to inflate the value of another one. That was "marking to market," too.

As usual, in the heat of making all that money in the market, investors didn't see it as a house of cards until much later, when stock prices collapsed.

On the surface, today's "mark to market" activity appears to be different. After all, most of the deals are in cash, not stock. But on closer inspection, the similarities become more apparent.

It is not hard cash that is being paid. It is better called soft cash because it is cash provided by bank loans and other forms of debt. In other words, those who are paying the big sums for these operations are doing so with somebody else's money. Moreover, it is money they could never get if loan demand generally were stronger, if banks and other lenders weren't so hungry for a place to put their money and collect higher interest rates than they can get elsewhere.

So let's look again at this idea of "mark to market." What has happened is that stock values have gone up based on being chased up by a lot of funny money. That raises the question how accurately all these businesses on the block are being valued. Is it another house of cards? If so, how broadly has it permeated Wall Street?

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