The Ideal BackdropYou're most likely to see M&A activity in industries and sectors where growth has slowed to a crawl. Take the defense sector as an example. Projected budget cuts will make it much harder for the nation's top defense contractors to boost sales and profits. Lockheed Martin ( LMT) and Raytheon ( RTN) are both expect to post a modest drop in sales in 2012 and again in 2013. To keep their dance card full, they could look to acquire a company such as Aerovironment ( AVAV), which has become a leader in unmanned aerial vehicles (drones) that dot the skies in the Middle East and elsewhere. Or they might look to acquire a company such as iRobot ( IRBT), which also has solid government contracts for its products that can be piloted in a remote fashion in hostile environments. Both Aerovironment and iRobot are trading far from their 52-week highs, creating relative bargains for potential acquirers. >>5 Stocks Setting Up to Break Out Of course, major drug companies such as Merck ( MRK) and Pfizer ( PFE) appear addicted to acquisitions. As their key drugs lose patent protection, these firms run the risk of seeing sales and profit fall sharply. They already have large and well-established sales forces, and a lack of products leaves them with nothing to do. Sometimes you'll find the big drug companies acquire a very large player in order to reap major cost-savings. That's why some analysts think AstraZeneca ( AZN) may be in play. That company has ample fat to be cut and a fairly promising drug pipeline that could bring new paths to growth. On a slightly smaller scale, analysts at Goldman Sachs suggest that Edwards Lifesciences ( EW), with a strong cardiovascular franchise, makes an attractive acquisition candidate. These drug companies also pursue smaller firms that have promising drugs undergoing clinical testing. Many of the small firms don't even bother to build a salesforce anymore, and instead partner up with an established drug firm -- or sell itself outright -- when it comes time for the drug to hit the market. There's a whole cottage industry of analysis that focuses on the biotech M&A theme, and you can look to our own Adam Feuerstein for a solid source of ideas in this area. Some investors tend to avoid specific biotech stocks, as they also bring considerable risk, and for them, simply buying a fund that holds promising biotech stocks -- the iShares Nasdaq Biotechnology Index Fund ( IBB) or the First Trust Amex Biotech Index fund ( FBT) -- may be the way to go.