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The Importance of Synergy in the M&A Process

April 5, 2022
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Key Takeaways:

  • Realization of synergies is a driving force in the pursuit of M&A and M&A advisors play an important role in identifying synergies.
  • M&A can bring about many types of synergy, including operating, revenue, cost, and financial.
  • Though there are immediate synergies resulting from M&A, it can often take years to fully realize many synergies.
  • The most successful deals utilize structured M&A integration playbooks, which help to maximize value extraction from transaction synergies.

In the M&A world, hearing the term synergy is commonplace. It is spoken in meetings and boardrooms across the globe. The term synergy helps to drive the M&A process within all transactions. But how do you define synergies? What is synergy in business? Why is synergy important in the M&A process?

What is Synergy

Synergy is the idea that the combination of two companies will result in greater value and performance than either of those two companies continuing to conduct their business independently. Synergy can be associated with a number of things, such as workforce and scale efficiencies, market expansion, and combined technologies. 

Achieving synergy may not happen immediately and often there are many synergies that are not recognized until years after the deal has closed. This era is known as the “phase-in” period, where a multitude of benefits such as increased revenues and cost savings are absorbed into the new business. In order to define synergies, one must take into account several nuances. 

What is Synergy in Business?

There are two main categories of synergy: hard and soft. Hard synergy refers to cost savings and soft synergies refer to revenue increases. These two main categories can also be broken down even further into categories such as revenue synergy or procurement synergy.

  • Operating Synergy creates strategic advantages resulting in higher returns on investment with the ability to make more successful investments over time. To achieve operating synergy, horizontal, vertical, and functional integration must all be considered. 

Horizontal integration involves scaling economies to promote an increased market power, which in turn increases sales and profits. Vertical integration controls the value chain which results in cost savings. Finally, functional integration determines the strengths of one firm versus another to achieve peak performance across the new company by creating specializations in each respective area.

  • Revenue Synergy occurs when two companies merge and are able to generate additional income. For example, if one company had revenue of $500 million and the other company had revenue of $70 million, and when combined the new company would be expected to generate revenue of $600 million, there would be implied revenue synergies of $30 million. Though challenging and speculative, estimating revenue synergy is an important aspect of the process and allows for analysis of the two businesses considering a merger.
  • Cost Synergy reflects the advantage of reducing overall costs as a result of combining the businesses. There are various examples of how these cost synergies are achieved, such as reducing headcounts, reducing rent by consolidating facilities and reducing the cost of vendors. As an example, a manufacturing company may realize cost synergies by acquiring a distributor, thus reducing the cost of building out a distribution network.
  • Financial Synergy relates to the cost of obtaining various funding sources required to conduct and finance a business. Larger companies are often given a lower interest rate when borrowing money than smaller businesses, given the risk profile of smaller companies. Generally, the better the cash flow, the lower the interest rate.

Synergy and M&A

Synergies are often the driving force for companies to pursue M&A, but in order to realize the full value, there must be strong communication and clear alignment of strategy across the combining companies. M&A is an opportunity for companies to join forces for the better, but without recognizing and timely addressing differences such as culture, processes, and management styles, there is the risk to destroying morale and productivity, missing opportunities, and ultimately slowing growth and profits. It is important to remember that synergies may take time, but there is no value in delay.

Though every deal is different, the most successful transactions employ a synergy valuation model that often shares a common trait – they utilize a comprehensive M&A integration playbook which lays a foundation for consistently unlocking synergistic value in transactions. When it comes to M&A, “winging it” on integration will lead to a failed transaction. It takes significant coordination of resources across many functions to properly execute integration and realize synergies. Both parties to the transaction need to be ready to hit the ground running on Day One, and without a plan, the transaction can quickly fall flat.

Persient helps unlock the value of your business beyond just the numbers

While many firms stick to traditional thinking, Persient realizes that M&A is not just a numbers game. Persient approaches each client as ‘more than just a cash flow multiple’ business. Through positioning and bringing attention to the synergistic and intangible elements of your business, we help clients unlock the remaining 30% to 40% of value in their company. Each transaction is skillfully executed to fulfill the owners’ lifestyle, legacy, and monetary goals.

We are based in La Jolla, San Diego, and are proud to serve companies across Southern California and nationwide. To learn more about how Persient can help you with your business needs, contact us today.
Investment banking services and securities offered through Independent Investment Bankers Corp., a registered broker-dealer, Member FINRA / SIPC. Persient LLC and Independent Investment Bankers Corp. are not affiliated entities. FINRA Broker Check.

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