Another Look at Synergies

In thinking about OWC and also M&A recently, I was thinking about other possible forms of synergies rather than the two most obvious ones: revenue growth and cost reduction.

While not exactly the same as cost reduction, there are potentially certain economies of scale which can be achieved through reducing OWC requirements. Firstly, when looking at PV of CFs related to synergies, recall that FCFF (UFCF) is defined as:

FCFF = NI + Dep - Δ WC - Capex + Int (1 - t)

Increasing sales and decreasing costs will certainly affect NI, but I also thought that there was the possibility of also being more operationally efficient (reducing size of distribution networks, inventory holding requirements and demand / capacity mismatches due to manufacturing variations resulting in either lost sales etc). Most of these topics are the same topics ones we discuss in our Strategy and Operations Management courses and would affect all the activity ratios.

While probably not the most significant category of possible synergies, when dealing in deals worth millions or billions, I'm sure such attention to detail would probably result in noteworthy potential value creation opportunities. Also, this could be another potential reason why Stragetic buyers will probably command a higher premium than Financial buyers.

Another potential example I was thinking about was the idea of writing up intangible assets (which was the cause of my deal being dilutive). The value creation in this case, however, would be more for the target companies current share holders rather than the acquirers (and also be reflected in the division of synergies between the two groups through the premium).

The idea is that the target companies share holders gain value throught the premium which is the excess over fair market value. This excess is divided into write up of intangible assets and good will. While the acquirer "loses" some of the value through good will, it can reclaim some of the value of the write up of intangible assets through the tax shield provided by amortizing this value.

Again, while not as large an effect as the original two primary methods, I'm sure the attention to this detail will yield some additional value creation (and at least value retention for the acquirer) associated with an M&A deal. At the very least, the target shareholders can gain and the acquirers can give up less of their synergies.