You don't need a rip-roaring economy to bring out the market's raiders and barbarians.

Wall Street's takeover artists typically thrive during booming economies and bull markets -- perhaps most famously during the late 1980s, when they knocked at the gates of high-profile companies like RJR Nabisco in notorious takeover battles.

But despite anemic economic growth, conditions right now could be leading us into another wave of leveraged buyouts, the experts say.

These buyouts specialists have tons of cash on hand, and money is cheap now anyway. And many solid public companies are suffering with weak profits and fallen stock prices.

In fact, any number of household names could have targets on their backs -- including, according to a recent Deutsche Bank report, Whirlpool (WHR, news), SkyWest (SKYW, news), Xerox (XRX, news), Tyson Foods (TSN, news) and Aetna (AET, news).

"We think conditions are very supportive of an up-cycle in LBOs," says Binky Chadha, co-author of that report, "On the Cusp of Another LBO Upcycle."

In fact, a new round of takeover fever may have already begun. Worldwide, takeovers by private equity shops averaged 725 per quarter in 2009. This rose to 942 per quarter last year and hit a pace of 1,024 per quarter during the first half of this year, according to Thomson Reuters.

How to profit from takeovers

The big money in LBOs, of course, is made by the artists who buy businesses and then take them private, using large amounts of leverage, or debt -- often borrowed against the assets of the target company.

Image: Michael Brush

Michael Brush

In private hands, companies can get a makeover as managers implement strategic plans that gradually improve business, often slashing costs, cutting jobs and selling assets in the process. "They're not caught in the quarterly earnings treadmill," says Andrew Corn, the chief investment officer of E5A Funds. "That allows managers to cut costs, figure out where companies are profitable and start to drive revenue again."

When they're done, raiders typically spin out the company to the public again, collecting hefty profits and fees -- usually 20% of any upside. "Everyone makes a ton of money when they sell the company or go public again. That's where the big payday is," says Corn.

On example: Blackstone Group (BX, news) recently took Kosmos Energy (KOS, news) public in an initial public offering at a value that was six times what it originally paid for the company, says Blackstone.

But average investors can make money here as well if they can spot targets early on -- before news of a takeover try surfaces. Such news can juice stocks nicely.

Shares of Clorox (CLX, news), for example, moved to $75 in July from lows of $67 that month, on news that shareholder activist Carl Icahn was offering $80 a share, a bid the Clorox board rejected. By the way, I've noticed that Icahn has also built big positions in Hain Celestial (HAIN, news) and Oshkosh (OSK, news), suggesting something's going on at those two as well.

And shares of 99 Cents Only Stores (NDN, news) moved up sharply to almost $20 from below $17 in March when the discount chain announced it had received a buyout offer from its founding family and an investment firm to take the company private. Late last year, shares of J. Crew and Jo-Ann Stores also jumped nicely on news they were being bought out.

The big money in LBOs

There are several reasons to believe the time is right for more takeover activity:

  • Private equity funds have "extraordinary amounts of dry powder," says Deutsche Bank. They have $500 billion in unused capital, which works out to $1.5 trillion in purchasing power when you add in the potential leverage on those funds. "Private equity funds are loaded with cash, and they don't get paid to sit on cash," says Timothy Ghriskey, the chief investment officer at Solaris Group, which manages $2 billion. "We invest in private equity for clients, and we don't want funds sitting on cash because it makes us wonder, 'What are we paying them for?'"
  • Money is cheap. Interest rates and yields on corporate debt are extremely low. This means takeover artists can readily borrow more to leverage deals.
  • Many stocks are also cheap, despite strong underlying fundamentals like solid free cash flow and relatively good earnings growth. This makes them attractive targets -- especially when they have some fixable defect like below-average profit margins, and a brand name with continuing value.

But the hard part is finding the actual targets before the rest of the market catches on.