About two-thirds of merger and acquisition transactions quash value for the acquirer—large firms have erased $226 billion of shareholder wealth over 20 years. Yet, some acquisitions do generate value, often through M&A synergies.
Understanding the potential of synergies is vital to both the seller and the buyer. Leaders need a clear grasp on where possible synergies lie—and the endurance and oversight required to capture them.
From a buyer's perspective, synergies influence the maximum price they will pay to purchase a company. By understanding potential synergies, sellers can form a basis for negotiating in favor of a higher purchase price.
To get more from your M&A transactions, keep reading for examples of synergy in mergers and acquisitions.
We'll also provide strategies and insights related to their capture.
Below is everything we will cover. Feel free to skip ahead.
- What is synergy in Mergers and Acquisitions (M&A)?
- Types of synergies in Mergers and Acquisitions
- M&A synergy sources
- How to create synergy realization
What is synergy in Mergers and Acquisitions (M&A)?
Synergy is defined by a mutually beneficial existence of business elements or participants. In a merger and acquisition sense, it's the notion that two companies are worth more combined than they are when independently valued.
The goal of every M&A is to create synergies by broadening a business's customer base. Thus, the entity can increase its market share and enhance its corporate financial strength. Therefore, synergies are the purpose of every M&A from the beginning of the deal.
Put simply, synergies are the potential economic benefits achieved when two companies merge.
Types of synergies in Mergers and Acquisitions
Before you can understand the types of synergies in M&As, you must have a deep understanding of the concept. Synergy can be further defined by the cooperation or interaction of two or more organizations. The collaboration produces a combined effect that is greater than the sum of each company's independent efforts.
Businesses enter into M&As for the straightforward reason to encourage the growth of their market share and the company as a whole. It's also a way of promoting the development of the company's power over pricing, costs, and similar aspects of a business.
People tend to believe that there are winners and losers in mergers and acquisitions. The acquiring company is the winner, and the acquired company sits on the losing end.
However, both companies can be winners with realized synergy. When using synergies as the driving forces of each deal, M&As become a win-win situation. The right deal leads to an increase in shareholder value—one that's much higher than its worth preceding a merger or acquisition.
Whether you're on the sell-side or buy-side, M&A synergies are equally important. Every business leader knows that synergies are essential in successful mergers and acquisitions.
M&A synergy sources
When are M&A synergies created?
In mergers and acquisitions, the origins of synergy revolve around the following three sources: (1) revenue synergies, (2) cost synergies, and (3) financial synergies.
1. Revenue synergies
When two companies merge, it's possible they can achieve more sales together than either organization could on its own.
Revenue synergies are difficult to estimate. Research shows that, in most cases, it takes longer to capture revenue synergies than other types. This is due to external variables that are beyond management's control.
An acquired company's customer base, for example, may negatively react to new product features and prices. The combined base of customers may express frustration at making too many purchases from one supplier. In response to an acquisition, some competitors may lower their prices.
Revenue synergies are so hard to predict that some executives don't consider them. As a result, they leave them out when calculating potential synergy value. They may foresee potential benefits but choose not to include them in their price estimate.
Despite the risk, revenue enhancement synergies can produce actual value. The target company brings a complementary or superior product or feature to the acquirer's offerings.
For example, between 1985 and 1995, Lloyds TSB acquired the Cheltenham and Gloucester Building Society and Abbey Life. The Cheltenham and Gloucester Society had a superior home-loan product. Abbey Life, on the other hand, sold insurance products. As a result, Lloyds TSB was able to combine these products to a dramatically larger retail base. As a result, the three entities generated significantly more revenue together than they could individually.
In another example, Gillette marketed batteries through existing channels, thanks to their 1996 acquisition of Duracell. In the first year after the M&A, Gillette sold Duracell goods in 25 new markets. This expansion increased sales in the company's established international markets.
How do you successfully capture revenue enhancement synergies? With a strategic way to identify, assess, and prioritize opportunities along three dimensions.
Where to sell (location)
The most effective way to capture revenue synergies is through location, which can be broken down into the following three methods:
- Cross-selling to existing customers
- Geographic expansion (domestic or international)
- Channel expansion in overlapping markets
Although not consistently successful, most companies pursue cross-selling to achieve revenue synergies.
The most common stumbling block in where to sell includes failing to ensure that the decision-maker at the target account is the same for the products at both companies. Other common pitfalls include sales reps not having the knowledge, bandwidth, or incentive structure in place to sell the company's newly combined portfolio and that leaders are fully committed to the effort.
What to sell (offerings)
Another effective way to capture revenue synergies is through offerings, which can be broken down into the following four methods:
- Bundles and solutions
- Brand extensions
- New products
Creating new product bundles and solutions, rebranding existing products, and developing new product offerings represent a second source of revenue synergies that can offer significant returns. More specifically, bundles and solutions can provide quick wins by enabling cross-selling to existing customers and attracting first-time customers with a complete package. Additionally, rebranding can be beneficial if either company has substantial equity with a particular customer group.
However, a longer-term option is capitalizing on the combined company's research and development capabilities.
How to sell (go-to-market)
The last method of capturing revenue synergies is through how the merged company intends to go-to-market. Below are the four dimensions of how a company will sell the combined products.
- Channel optimization
- Coverage optimization
- Salesforce effectiveness
- Revenue management
Many executives involved in mergers and acquisitions report sharing best practices. That and the transfer of commercial capabilities also creates revenue synergies.
Some companies have shown newfound expertise in implementing high-level analytics to hurdles such as product buying recommendations and geographic territory optimization.
Applying advanced data analytics has proven to be valuable during M&A transactions. In one study, 55% of respondents stated that analytics are used in M&A to determine synergies, value, and risk. In addition, by doing due diligence, you can mine new insights from external data when available. This can serve as an important source of insight, as companies' access to internal data is limited during the due diligence phase.
When evaluating M&A deals, use advanced analytics to uncover opportunities for revenue synergies that would have otherwise gone overlooked.
Leading source of value for each type of revenue synergy
While there is a tremendous source of value to be realized in revenue synergies, they are not created equal. Cross-selling to an existing customer base tops the list in terms of impact, followed by geographic expansion and bundles and solutions.
Below is a ranking of revenue synergy impact by lever.
2. Cost synergies
A merger of two companies can create cost savings due to:
- Marketing strategies and channels
- Shared information and resources
- Lower salaries
- Streamlined processes
This is due to new channels, shared information and resources, lower salaries, and streamlined processes.
Marketing strategies and channels
Increased marketing resources and channels may lead to reduced costs. Having more distribution channels means putting more of your products and services in front of your customer base, translating to more money.
Shared information and resources
Research and development are essential to business as they provide knowledge that leads to the improvement of existing processes. In addition, increasing the acquiring company's access to R&D allows for advancements in production that can lead to cost savings.
Layoffs are not always utilized in mergers and acquisitions. However, most companies don't need two of each executive position and some staff jobs. You can apply this logic to the new company's entire organizational chart.
If there are too many high salaries, eliminating some can yield cost savings.
Streamlined processes can make a company more efficient, which saves time and money.
As a company's supply chain becomes more efficient, the new company can typically negotiate with suppliers for better prices.
10 Examples of cost synergy estimation methods
Keeping these strategies in mind, how does one estimate potential M&A cost savings synergies? In most cases, this is less of an exact calculation and more of a thoughtful estimation.
Some of the primary considerations include estimating the impact of shared supplies, identifying overlapping costs and potential saved compensation costs, and predicting the role efficiency can play when two companies are merged.
- Determine ways to negotiate better terms and consolidate vendors (i.e., purchase goods at lower prices).
- Assess headcount and identify potentially redundant staff positions that you can eliminate—no company needs two CEOs.
- Estimate the value saved by sharing resources (i.e., planes, transportation, trucks, factories, etc.).
- Estimate rent or head office savings by consolidating offices.
- Identify opportunities to increase revenue by increasing prices or upselling complementary products.
- Reduce professional service fees.
- Entertain human capital improvements and the potential to attract superior talent.
- Identify operating efficiency improvements from comparing best practices.
- Streamline distribution strategy by serving customers with closer warehouses and locations.
- Reduce labor costs by hiring in other countries if the target company is international.
3. Financial synergies
Financial synergies are frequently evaluated in the context of M&A. They're known for being slightly deceptive, but combining two companies can create loan and tax benefits. Financial synergies include advancing financial metrics such as debt capacity, revenue, profitability, cost of capital, and more.
Valuation and financial analysts will typically compare notes to identify these synergies. The goal of every M&A is to grow these synergies and hope that the two companies reach their full potential when combined.
How to create synergy realization
A deal that looks good on paper means nothing if potential synergies aren't realized.
Mergers and acquisitions may fail for various reasons. One significant reason is the failure to capture predicted M&A synergies. Keeping this in mind, here's how to create synergy realization in your M&A.
1. Stay focused on the predetermined objectives
To achieve synergies, don't lose sight of your predetermined goals and objectives. Your entire team must stay laser-focused throughout the process.
You can adopt an agile merger and acquisition process to help with this. Agile project management involves breaking down large projects into milestones. Instead of plowing through an extensive list of tasks, your company's focus should stay on the longer-term objective. This strategy allows for the continuous improvement of a company's product or service.
The principles of agile management can help you streamline your M&A process and make deals more efficient.
One way to encourage this is to ensure that operators and leaders take ownership of the M&A synergy effort right from the start. It's best to have a cross-functional team that can regularly drill down deep on assumptions. Make ownership clear from the start.
2. Prioritize synergies that are easily captured
The first year of an M&A is critical for successfully capturing M&A synergies. Therefore, take this time to prioritize synergies that are easier to achieve and produce the highest ROI.
The targeted synergies should be trackable, have a high probability of success, and match your overarching goal.
A good starting point is to prioritize value drivers in preparation for execution and capture. It's essential to realize that you will never capture all synergies you estimate in the initial phases. You will have many areas to focus on after the deal and only so many resources. If you fail to realize that you can't capture all estimated synergies, you may overvalue an acquisition target.
Only target the "easy wins," such as the synergies that increase shareholder value and yield the highest return for minimum effort.
Accurately naming and managing value drivers helps you focus your attention on activities that will impact value the most. With this focus, you can translate an overall goal of value creation into distinct actions that are most likely to deliver value.
Value drivers can be split into three categories: growth drivers, efficiency drivers, and financial drivers.
By defining and examining value creation paths, you can understand responsibilities by function and level within the company.
Accurate value driver analysis helps you sort through your operations to define vital strategic levers. For example, say growth drivers are critical to you. Then, you can direct strategies planning to focus on these strategies. Value drivers make sure that your strategy is based on the reality of operating performance.
3. Build strategies through the filter of your sales team
Is your realization strategy well-supported and thoughtful? Maybe. But it doesn't matter if it doesn't incorporate the capability of your sales team.
It's vital to comprehend how your strategy will affect your sales team. This is especially true when considering the sales cycle and each salesperson's capacity and capability to carry a more comprehensive product portfolio.
If your new sales strategy is similar to your old one, you stand a greater chance of success.
Companies such as IBM and SAP illustrate this concept. They buy companies with complementary products, maintain strong relationships with their customer base, and cross-sell products to their accounts.
It's common for companies to stretch their sales team beyond its capabilities, and the results are disappointing. You must consider whether your team can efficiently acquire the abilities and knowledge they must have to sell new products. If needed, consider introducing additional onboarding and sales training programs.
You're likely to have the most success if you give your salespeople the resources and tools they require to add new products to their portfolio.
4. Complement top-level estimates with detailed customer-level insight
You will find numerous value-lever benchmarks and analyses for estimating cost synergies. Revenue enhancement strategies, however, present another challenge.
It would be best if you complemented top-level estimates with bottom-up customer-level insight. This strategy allows you to define achievable and accurate forecasts.
To do this, you must look at individual customers and determine how strong your relationship is. Next, you'll need to discern which products they already buy and which ones they need. Finally, is your sales team convinced that your products and services offer sufficient potential?
If your company has failed to do this, it's not too late. You can still use these insights to shape a sound estimate.
You can use reference products to determine whether the numbers make sense. Don't be afraid to examine the minute details and relevant benchmarks to see if your estimations make sense.
5. Launch transparent targets and carefully-crafted incentives
Transparent sales targets and meticulously developed financial incentives are two of the top strategies for producing revenue enhancement synergies.
Utilizing transparent targets leads to a sales team that knows what is expected of them, understands the targets' rationale, and recognizes how they will contribute to the strategy.
It would be best if you worked around existing compensation plans to determine correct financial incentives. One approach is to introduce a special incentive or bonus to capitalize on potential revenue enhancement synergies quickly.
Companies that succeed view these synergies as essential. They ensure incentives are significant enough to drive results and spread them across the entire company—from top-level executives to frontline staff.
6. Install the support required for execution
The ability to capture revenue enhancement synergies requires new organizational capabilities and muscle.
For example, a medical device company wanted to cross-sell two leading products. Both company's sales teams had to have the ability to order the products, and individual team leaders had to be recognized for relevant sales. This is a complicated feat for a post-M&A world of dual sale processes and twin systems.
The company joined the necessary resources and people into a single sales operations team, IT, supply-chain, and compensation experts. They then tasked them with streamlining the new sales processes—from customer order to final delivery.
Ensuring that they sent sales data to the appropriate P&Ls in each business unit was another hurdle. The new single took months to map and redefine processes, running tests to eradicate glitches, and updating systems. Then, they aspired to explain new processes to supply-chain and sales teams. To do so, they engaged business unit leaders to demonstrate the value in the initiative and create new sales aids and training plans.
To drive accountability, the company launched goals, a recognition scheme, and incentives. They also set up regular check-in meetings to encourage responsibility and installed performance benchmarks and scorecards.
The single, cross-functional team and its meticulous execution planning played a significant role in capturing revenue synergies from its effort.
7. Track the progress
Finally, when attempting to capture synergies, executives must find a way to keep the score of the potential synergies involved in their M&A.
Making tracking and aligning performance a crucial part of management's dialogue is critical to all corporate initiatives. However, it becomes problematic when measuring revenue enhancement synergies.
If companies fail to track synergies, they risk losing momentum shortly after a deal closes. Best practices call for tracking synergies monthly after closing. Additionally, the most productive companies that conduct M&A create a well-balanced scorecard of leading and lagging metrics and continue to monitor performance long after the close. These metrics focus on the upside in addition to competing priorities when integrating.
Leading metrics concentrate on inputs, including account activity. Lagging metrics gauge the outcomes of these account activities. This includes revenue and products sold.
Once a way to track these metrics is in effect, you must weave them into sales and management habits. The scorecard must become a part of daily business efforts to increase the potential for synergies to become a reality.
Track M&A synergies with a project management platform
Many companies lack the discipline to guarantee that analytical precision triumphs over egotism. A company's executives are responsible for its corporate governance. This is required to estimate synergies before a deal is made accurately.
If the numbers don't add up, it's not a good deal. If they do, it's your responsibility to determine ways to measure and track the right benchmarks for success long after the sale closes. Additionally, M&A synergy benchmarks for each deal should be formulated and frequently revisited.
This is why we recommend adopting a centralized location for managing the entire M&A process.
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