An Introduction to the Concept of Cost Synergy, with an Example and Considerations

When it comes to mergers and acquisitions, the phrase “synergy” is often used. This term is used to describe the increased value that results from an M & A deal. Most organizations do M&A deals primarily with the intention of achieving synergies. Revenue, cost, and financial synergy are the primary goals of companies. In this essay, we’ll talk about Cost Synergy.

What does Cost Synergy mean?

After the merger or acquisition, it mostly relates to the anticipated cost reductions. Cost synergies are often achieved by an improvement in efficiency as a result of an M&A or a decrease in expenditures.

An M & A agreement may result in a decrease in the cost of insurance, equipment, distribution charges, and more after the transaction. It might save both firms a lot of money if they were able to utilize the same distribution network. Alternatively, if both firms have an accounting department, it may not be necessary to keep two distinct teams after the merger. This might lead to layoffs, which could save money in the long run. Economies of scale and bulk purchasing may also help organizations save money when two different businesses merge.

Cost synergies may also be easily calculated. The cost synergies of an acquisition may be measured by comparing the purchase to similar deals or by analyzing the specific costs of each firm. In addition, a bottom-up study may be used to determine how the total assets will result in savings in the evaluation of each organization.

What Factors Influence Cost Synergy?

Cost synergies may be achieved after a merger or acquisition in the following ways:

  • An expansion in the number of marketing channels and resources might be the outcome of a merger or acquisition. This would have a direct influence on lowering marketing expenses, resulting in savings.
  • A merger and acquisition (M & A) might have a positive impact on the exchange of knowledge and the availability of new research and development. To put it another way, this might lead to increased output and, thus, lower costs.
  • After a merger or acquisition, it’s conceivable that the new company has more personnel than it needs, which would lead the new management to consider layoffs. As a consequence, the corporation could save money by laying off workers.
  • It’s possible to simplify the manufacturing operations of the two separate divisions. And this might save both time and money.
  • It is also possible to achieve capital synergy and hence save costs by increasing the usage of capital assets.
  • Companies may also save on service fees, office and location rent, and other overhead costs by using this service.
  • Consider the possibility that one of these two firms has proprietary technology that might improve the efficiency of the other company’s procedures. Saving money would be an apparent effect.
  • There will be cost savings if one company’s supply chain connection lowers the total input cost. In addition, the new company will be significantly larger, giving it more clout in negotiations with suppliers.
  • Savings in sales and marketing might also be achieved by combining the efforts of the two firms rather than doing it separately. In addition, the new companies will be able to get greater advertising prices.

Example and Challenges in Cost Synergy

After the merging of Exxon and Mobil in 1998, the two companies saw enormous cost savings as a consequence. There can be little question that the merger’s goal was to establish the world’s biggest oil firm.

Refineries and service stations, for example, belonged to both firms, and many of these assets overlapped. After the merger, the new company was able to sell other assets and lay off thousands of employees, resulting in enormous cost savings.

Synergies in terms of cost are easy to calculate on paper. Since there are so many assets and employees that overlap, it might be difficult to identify them all. It’s important for management to take into account all the probable consequences of these activities. As a result, the company’s management must be absolutely certain that the benefits of such measures would exceed the costs.

In addition, it may take some time for the company to reap the cost savings from a merger. The shift to new suppliers, premises, and staff may take many years.

In order to reap the benefits of the synergies, the corporation must also cover the implementation costs. New IT systems and procedures may be expensive for the organization to put into operation. Severance charges for terminated employees, lease break fees, contractual financial penalties, and so on would fall on the corporation.

The last word

Most M & A transactions are motivated by cost synergies. When a firm merges or acquires another company, these synergies seem evident on paper, but they are very difficult to realize. For the merger or acquisition to succeed, management must take into consideration all the immediate and long-term consequences of their cost reduction efforts.

Read Also

The Different Types of Costing
Meaning, Formula, and Example of Equivalent Annual Cost
Revenue Synergy: What It Is, How It Works, and What You Can Do

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