Eaton Buys Cooper in 2012's Biggest U.S. Merger (Update 1)

Updated to reflect analyst comments and additional data throughout

NEW YORK ( TheStreet) -- Engineering giant Eaton ( ETN) is buying electrical equipment supplier Cooper Industries ( CBE) for $11.8 billion, making the industrial merger the largest U.S. acquisition of 2012, and bolstering expectations for additional M&A in the sector.

The deal values Cooper Industries at $72 per share, a 29% premium to its Friday close. It is expected to add to Eaton's earnings per share and bolster the Cleveland-based company's revenue by roughly a third through an expansion of its power systems and electrical products businesses and geographic reach.

Under the terms of the cash and stock buyout offer, Cooper shareholders will receive $39.15 in cash and 0.77479 shares of Eaton for each Cooper share. The prospective merger is the largest U.S. deal of 2012, beating out Pfizer's ( PFE) $11.85 billion sale of its baby foods unit to Nestle, based on Bloomberg data that currently values Eaton's cash and stock bid at $12.83 billion.

If the deal closes, which is expected in the second half of 2012, the combined company's 2011 revenue would have reached $21.5 billion and earnings before interest, taxes, depreciation and amortization (EBITDA) of $3.1 billion. The deal is also expected to generate $535 million in cost synergies by 2016, while expanding both companies' market reach and product offerings.

The merger also strengthens a revival in M&A among diversified engineering conglomerates. A near $4 billion acquisition of Thomas & Betts ( TNB) by European giant ABB ( ABB) in January signaled that after a post-crisis focus on bolstering capital, bets on a cyclical upturn in industrial spending could spark more deals. In fact, M&A appetite could generate competing bids for Cooper Industries, and lead to other deals within the sector.

"In the past, it has been speculated in the media that Schneider Electric had an interest in Cooper and given ongoing industry consolidation and shrinking pool of available quality electrical equipment assets, we would not be surprised to see additional acquirer interest in Cooper," wrote analyst Ajay Kejriwal of FBR Capital Markets in a note to clients on Monday.

When ABB bought Thomas & Betts, analysts speculated that outside of a Cooper Industries acquisition, Hubbell ( HUB.B), General Cable Corp. ( BGC), LittleFuse ( LFUS), Rockwell Automation ( ROC) and Acuity Brands ( AYI) could be targets for a strategic acquirer as valuations and balance sheets in the engineering sector recover. On Monday, General Cable said it was buying aluminum cable manufacturer and energy distribution specialist Alcan Cable for $185 million in cash from mining giant Rio Tinto ( RTP).

Potential acquirers in the electrical engineering space include General Electric ( GE), Dover ( DOV) and Danaher ( DHR), noted Credit Suisse analyst Julian Mitchell in a January note to clients reacting to ABB's acquisition of Thomas & Betts.

In Feb. 2011, Danaher bought Beckman Coulter for $5.87 billion, but it may now be able to absorb a new deal, noted Mitchell, who lists industrial products conglomerate SPW ( SPX) and Invensys ( ISYS) as other names to watch in the industrial sector M&A game.

Cooper Industries was founded in 1833 and Eaton was founded in 1911. While Eaton has key businesses related to automation and power monitoring, Cooper Industries adds to the company's power transmission and distribution offerings.

"This compelling combination of Eaton's power distribution and power quality equipment and systems with Cooper's diversified component brands, global reach and international distribution creates a game changer to serve the electrical industry," said Eaton CEO Alexander Cutler in a statement.

By acquiring Cooper Industries, Wells Fargo analysts note that Eaton's business mix will tilt toward electrical products. After the deal, the new company's proforma 2012 revenue will be roughly $23 billion, with 58% of revenue coming from electrical products and 42% from industrial products servicing the auto, transportation and aerospace sectors.

Although Eaton's acquisition of Cooper Industries does not come cheap and is at the upper end of valuations paid in sector, the deal is expected to eventually add significantly to earnings through a mix of growth, cost synergies and tax benefits, notes Jefferies analyst Stephen Volkmann.

Roughly 30% of Cooper Industries' revenue comes from its lighting and fire & security business that has no overlap with Eaton, notes Volkmann. Meanwhile, Cooper Industries' exposure to residential construction and commercial construction end markets may be hitting a trough, with upside in a recovery, adds Volkmann, who rates Eaton a buy with a $60 price target. Still there are overlaps in the merger, including Cooper Industries' power systems unit where it specializes in small transformers, and its Bussman unit that makes circuit protection products and vehicle power distribution.

"While the multiples are towards the upper end of the range for historical transactions within the space there is an argument to be made for acquiring a premier market participant such as Cooper," Volkmann argued in a Monday note to clients.

The deal is expected to added 35 cents to Eaton's operating earnings per share by 2014 and by 45 cents in 2015. Eaton shareholders are expected to own approximately 73% of the combined company while legacy Cooper shareholders are expected to own approximately 27%.

In midday trading on Monday, Cooper Industries shares rose over 26% to over $70, a little below Eaton's offer price. Eaton shares were up 1%.

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For the deal to close, shareholders representing 75% of Cooper Industries stock will need to approve the transaction. T. Rowe Price Group is Cooper Industries' largest shareholder with a 10%-plus stake in the Ireland-based company. Asset managers Barrow Hanley and Vanguard Group are also large shareholders with stakes of 7.8% and 5.4%, according to Securities and Exchange Commission data compiled by Bloomberg.

At closing, Cleveland-based Eaton will incorporate in Ireland, where Cooper Industries is headquartered, in a move that the company said may wrench out millions in tax savings.

After the Eaton and Pfizer/Nestle deals, El Paso's ( EP) sale of its exploration unit to private equity fund Apollo Global Management ( APO) and Yahoo!'s ( YHOO) $7.1 billion sale of half of its Alibaba stake, in a deal announced late on Sunday, are the largest M&A transactions involving U.S. companies year-to-date.

In a statement, Eaton said it has secured a $6.75 billion fully underwritten bridge financing commitment from Morgan Stanley and Citigroup to finance the cash portion of the deal.

-- Written by Antoine Gara in New York

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