Read the assigned article, “Are You Paying Too Much for That Acquisition?” by Eccles, Lanes, and Wilson, from Harvard Business Review (1999).
In the textbook, complete the following problems.
Problem 7.11 (Show calculations for a, b, and c.)
Problem 7.12 (Show calculations for a and b.)
Using information from “Are You Paying Too Much for That Acquisition?” address the following with a minimum of 500 words.
List and describe the components used to calculate synergy value.
Critically evaluate which component is most underestimated. Explain your answer.
Sample Solution
The article “Are You Paying Too Much for That Acquisition?” by Eccles, Lanes, and Wilson (1999) outlines the key components used to calculate the synergy value of an acquisition. These components include operating synergies, financing synergies, level of integration necessary to achieve expected synergies, and taxes. When evaluating acquisitions it is important to not only take into account the present value of cash flows before and after the acquisition but also any additional costs associated with achieving those cash flows that increase its value in comparison with other alternatives.
Sample Solution
The article “Are You Paying Too Much for That Acquisition?” by Eccles, Lanes, and Wilson (1999) outlines the key components used to calculate the synergy value of an acquisition. These components include operating synergies, financing synergies, level of integration necessary to achieve expected synergies, and taxes. When evaluating acquisitions it is important to not only take into account the present value of cash flows before and after the acquisition but also any additional costs associated with achieving those cash flows that increase its value in comparison with other alternatives.
Operating Synergies refer to improvements in revenue or cost savings as a result of combining two businesses through economies of scale or scope or changes in product mix which can increase operating income beyond what would be achieved independently. Financing Synergies come from changes related to debt structure such as lower interest rates due to increased creditworthiness resulting from higher debt service coverage ratio or changes in capital structure like equity deals versus asset deals. Level of Integration refers to the cost involved with creating a larger combined entity such as IT systems needed for consolidation or management redundancies resulting from mergers often involving extra personnel costs like severance payments. Lastly Taxes are incurred when assets must be transferred between entities and involve tax law considerations like depreciation schedules that can affect post-merger earnings potential.
Of all these components, I believe Level Of Integration is most underestimated during evaluations because there can often be indirect costs associated that don’t show up on financial statements and therefore go unaccounted for which can lead underestimations of total acquisition costs post-integration and even failure if these hidden costs are too high relative to expected benefits gained by acquiring another firm (Eccles et al., 1999). For example, having different information technology systems across companies makes it difficult for teams from different business units within an acquired company operate cohesively together leading more resources being allocated towards integrating them rather than expanding operations . Additionally unnecessary expenses may occur due to duplicate functions created by merging companies that weren’t identified prior reducing overall potential gains compared with expectations while increasing resource investment required making obtaining positive returns less likely (Eccles et al., 1999). Therefore when analyzing potential acquisitions managers must consider level of integration cost carefully since they could have significant impacts on total projected return despite their previously unseen nature.
