Smith & Wollensky: Finding smaller buyout candidates

The Wall Street Journal recently reported on the bidding war for for the Smith & Wollensky Restaurant Group (NASDAQ: SWRG). On Friday, Landry's increased its bid for for the restaurant chain to make it 5.4% higher than the offer the company received from the Patina Restaurant Group. The offer is for $84 million, 1/100th the size of many of the takeover battles that are dominating news coverage. But I believe that individual investors can systematically look for small companies that are ripe for takeover.

The stock closed Friday at $9.75 -- the exact amount Landry's offered, indicating that many investors expect it to go higher. When Landry's made their initial offer in mid-January, the stock traded around $5 per share. So the buyout price could reach a premium of 100% over the stock's price before it was in play.

Because the size of micro-caps allows them to fly under the radar, small investors may be able to find stocks that scream "buyout candidate" well before anything happens. When I'm playing "who wants to find a takeover target," here are some of the things I look for:

- A stock trading around its liquidation value (this can be calculated by subtracting the a company's total liabilities from its current assets, which Benjamin Graham called a net-net).

- A company with a strong brand that would be a good strategic fit for a larger company.

- A stock trading at a low price/earnings multiple.

- A company without strong anti-takeover provisions.

While it is rare to find a stock meeting all of these criteria, a company with at least half of these is probably undervalued enough to make it a possible takeover target -- and thus a good investment opportunity.