THE ROLE OF SYNERGIES IN M&A: FINANCIAL AND OPERATIONAL BENEFITS
INTRODUCTION
In mergers and acquisitions Synergies will be vital for the performance and value generation of the merged organizations. There are three major forms of synergies: revenue synergies, cost (operational) synergies, and financial synergies. In this article, we will explore in-depth about these synergies. After reading this article, you will have a thorough understanding of synergy and their many types.
What are synergies?
Synergies in mergers and acquisitions (M&A) are stated to exist when the combined worth of two businesses exceeds the total of the separate enterprises prior to the merger. For example, a firm has a value of 700 cr. and another firm has a value of 150cr, but the combined value of the firm is 1000cr. we can say that 150cr (700cr + 150cr – 1000cr = 150cr) is synergies for this merger.
In simple words, synergies refer to the additional value of generated by the transaction.
Types of synergies
There are various sorts of synergy, including:
Revenue synergies
Revenue synergies are based on the concept that two organizations will create more overall cash flows after combining than if they remained independent.
Cause of revenue synergies: The only source of revenue synergy is the additional revenue generated when the strategic buyer and target business merge. Revenue synergies typically develop between companies who sell in the same industry.
For example, a certain company sells brand-new musical instruments while another sells used musical equipment. These two are not direct competitors, although they do compete in the same market.
The information that follows is a list of revenue-enhancing synergies that may be gained by merging two companies:
1. Patents: Such revenue synergy enables the combined business to acquire patents and intellectual property from other firms, allowing it to enhance production and earn more income while also improving its financial structure.
2. Complementary products: Any two firms that have combined may have produced products that are complementary prior to the merger. Their consumers can thus be provided a combination of items in a bundle that boosts their sales.
3. Complementary geographies and customers: By combining two independent organizations with divergent geographies and consumers, the new firm may be able to capitalize on the chance for wider geographic and demographic access, generating more income.
Cost Synergies
Let us now explore cost synergies using the example provided above. When one firm sells
brand new musical instruments and another sells used musical instruments, a merger and acquisition allows both companies to generate more money without raising their expenditures.
Typically, cost efficiencies are accomplished through:
- Lower salaries: When two firms merge into one, it is unlikely that two identical C-level roles would be required because the management team will be combined. Salary spending is drastically decreased, but this does not have to include layoffs.
- Shared resources: Cost synergies enable small businesses to receive the research and development results of a profitable firm, lowering manufacturing costs while maintaining product quality.
- Better sales and marketing strategy: Mergers and acquisitions allow the same company to decrease market research expenditures while simultaneously expanding its marketing outlets.
- Shared supply chains: If one company’s supply chains are more productive, the combined firm may be able to save opportunity costs.
- Lower rent: Mergers consolidate two distinct enterprises into a single physical business entity, which can lower the pay for the rent.
Financial Synergy
Financial synergies refer to a company’s cost of capital; mergers and acquisitions allow corporations to lower their cost of capital.
Consider a mid-sized corporation that wants to borrow money from the bank. Under these conditions, the bank may charge higher interest rates. However, when two mid-sized enterprises merge to form a larger firm, the loan terms increase. Firms gain from having a better cash flow and capital structure, which makes them more likely to return their loans on time.
Common advantages that a business gains from financial synergy include:
- Tax advantages: The companies involved can already profit from the merger’s financial synergy under current tax legislation. When a prosperous business acquires a loss-making firm, the former might reduce its tax burden. For example, one firm may use another company’s depreciation allowance to assist decrease its own tax burden.
- Increased debt capacity: Financial synergy allows two separate enterprises to borrow at lower interest rates. As a result, the debt capacity has increased since the cost of capital has decreased, and the newly amalgamated firm’s cash flows have improved significantly.
- Lower cost of equity: Financial synergy benefits are sometimes obtained when a large corporation acquires a tiny one. Such a takeover producesSuch takeover creates little competition, increases the customer base and market share, and thus results in a lower cost of equity.
CONCLUSION
Merger and acquisition (M&A) synergies may be a crucial value generator, since they not only include financial synergies but also operational (or cost) synergies, which add to the merged company’s efficiency, profitability, and competitiveness. However, proper planning, reasonable expectations, and integrative implementation techniques will be required.