Synergies in mergers and acquisitions: A critical review and synthesis of the leading valuation practices

Abstract

Research demonstrates that mergers and acquisitions (M&As) of business entities may create synergies – Igor Ansoff’s “2 + 2 = 5 effect” – but, crucially, that this is by no means guaranteed. Studies further show that in successful cases, synergies frequently accrue to the target company’s shareholders only, principally as a result of the payment of outsized M&A premiums by the acquirer. Remarkably, payment of these premiums is often justified by a mere notion of synergy. These factors, together with a void in the literature, and the significant amounts invested in M&As, create a critical need for a comprehensive description of superior ways of valuing M&A synergies before committing to a transaction. This study aims to make a contribution in this regard by classifying certain practices as leading valuation practices by means of a critical literature review, and by synthesising these into the following logical groupings: (1) practices part of the overall M&A process, affecting synergy valuation; (2) practices with a universal application in valuing M&A synergy; and (3) valuation practices linked to specific origins of synergy. The origins of synergy explored in this study include: scale economies; economies of scope; managerial efficiencies; economies of the capital market; economies in innovative activity; and other more contentious origins, including tax savings, and market power. Certain valuation practices are also recommended, where appropriate. Research in this area is relevant because any enhancement in the accuracy of M&A synergy valuation ex ante should improve the selection of worthwhile M&A targets. Better choices in this area may then represent a positive step towards sustainable business practice.