What Types of Synergies Are There?
In financial terms, synergy is when two or more companies have greater value working together than they do working separately.
Synergy is often used to measure the positive effects of business mergers and acquisitions (M&As).
What are the three main types of synergies?
The three main types of synergies are financial synergies, revenue synergies, and cost synergies.
First, financial synergy refers to financial benefits companies may receive from merging. This is harder to estimate than revenue and cost synergies, but it’s an essential component of M&As.
Financial synergies are those related to a company’s cost of capital. They can include tax benefits, smaller premiums, funding access, and increased debt capacity.
Revenue synergy refers to the additional revenue that companies generate after merging. It can be somewhat difficult to estimate because it requires speculative predictions and revenue synergy varies every year. If two merging companies result in a decrease in revenue generation, this is referred to as revenue attrition.
Revenue synergy can be caused by several factors. Merging companies in separate locations can gain geographical access to each other’s customers, resulting in more sales.
Merging companies that bundle complementary products can generate more revenue. They can also gain access to each other’s patents, allowing them to more easily create high-demand products.
Cost synergy is the ability of companies to reduce costs as a result of merging. A common way merging companies save costs is through economies of scale. A merged company can gain the ability to produce more goods, decreasing the average cost per unit.
Economies of scope can also be achieved by spreading costs over complementary goods.
There are several factors that can contribute to cost synergy. When two companies merge, there is no longer a need to pay two salaries for each position. This results in overall payroll savings. Merged companies have more access to supply chains, making this process more cost-efficient. Consolidating office space and factory locations also reduces rent costs.
What is an example of a synergy calculation?
Imagine there are two companies in the real estate industry called Commercial Partners and Northside Real Estate. Each company generates $200M per year in revenue.
The two companies merge to form Northside Commercial Partners, which now generates $500M in annual revenue.
Therefore, revenue synergy is equal to $100M. In other words, the two companies benefit from $100M additional annual revenue because of the merger.
This is calculated by taking the revenue of the merged firm ($500M from Northside Commercial Partners) and subtracting the sum of the two revenues generated by the independent companies ($400M combined from Commercial Partners and Northside Real Estate). This equals a revenue synergy of $100M.
Synergies are achieved when separate companies increase their value by merging into one company. They can be difficult to calculate because they involve future predictions, but they’re essential factors in M&A research.
Benefits relating to a company’s cost of capital are referred to as financial synergies. These include greater debt capacity and tax benefits.
Synergies that generate additional revenue are called revenue synergies. Examples of this type of synergy include complementary products, increased geographical coverage, and greater sales from patent access. Cost synergies are those that decrease overall costs. They include rent savings, decreased payroll expenses, and better supply chain access.