1. Synergies represent the most direct correlation with M&A integration costs.
The best measurement of the degree of required change is the size of the synergy target. More specifically, capturing synergies requires making changes to the current operating model, technology, workforce, infrastructure and other elements. Typically, the more that change is desired, the more spending will be needed — at least in the near term. Reducing the number of employees, shutting down a headquarters, rebranding the company or consolidating the supply chain all result in significant costs.
So, it is logical that the higher the synergy target, the greater the change needed and the more it costs to get there. According to the EY Global Capital Confidence Barometer survey published in October 2018, companies that spent more on the integration process outperformed their pre-deal targets. In fact, those companies that met or exceeded their original synergy targets spent on average 8% more (as a percentage of announced synergies) than those that failed to meet their ambitions. Being willing to spend money to save money seems to make sense in this case.
2. The most frequently reported drivers of one-time M&A integration costs are severance and employee-related costs, plant, office or real estate shutdown and IT system changes.
Severance costs that the buyer pays account for more than 50% of integration costs in certain deals, according to EY research. This one-time “hit” has an annuity-like payback from cost savings for the foreseeable future. Given that such costs often creep back in over the near term, it is critical to track these cost synergies for at least three to five years post-close. Building scale and breaking into new markets are some of the main reasons for an acquisition. These acquisition drivers often bring new talent into a business because operating in a new market may require skills and local knowledge that the acquiring company lacks. Companies may need to place more emphasis on the talent that they are acquiring and put the resources in place to secure the commitment of individuals who are essential to the organization’s future success.
Real estate activities (shutting down properties, moving offices, and reconfiguring locations) drive integration costs but are not reported as frequently as other costs. IT costs, such as licensing, consultant and reconfiguration fees, round out the top three integration cost drivers.
3. Deal size has some bearing on M&A integration costs — but only loosely.
According to EY research, M&A integration costs can range from 1% to 7% of deal value, regardless of deal size. Deals valued above US$10b incur, on average, lower integration costs than deals valued below US$10b, measured as a percentage of deal value. In the deal value range of US$5b to US$10b, the integration costs ranged from 1% to 5% of the deal value. In the lower deal value range of US$1b to US$5b, integration costs increased to 2% to 7% of the deal value. In reality, this range is too large to be predictive.
The tendency for M&A integration costs to increase marginally when the deal size goes down could be because larger deals are oftentimes scale deals in which a company is buying a direct competitor and can more easily integrate its similar products, services or facilities. In some smaller deals — for example, the purchase of a smaller company that makes an innovative product — the costs to integrate a dissimilar business can increase in terms of percentage of deal value.
The real reason small deals are more expensive than bigger deals is likely that there are many fixed integration costs not linked to deal size (e.g., costs of regulatory filings, IT-related fees and management consulting fees).
4. M&A integration costs vary by sector.
Certain sectors we studied illustrate variances in M&A integration costs in relation to deal value as well as target revenue. For example, consumer, health care and life sciences sectors show higher integration costs relative to deal value and target revenue, compared with the energy and utilities, and technology, media and telecommunications (TMT) sectors. Hence, the integration costs for a deal might vary if we look at them from the lens of the target sector. Here are some examples:
- Consumer sector M&A integration costs tend to be driven by deals in the consumer products subsector that focus on product innovations, as opposed to deals in the retail space, which hover around operational efficiencies.
- Health care and life sciences M&A integration costs median was at 7.6% of target revenue, possibly driven by compliance with regulatory, safety and quality standards, as well as consolidation of the research and development function.
- The energy and utilities sector has the lowest M&A integration costs overall, with a median of 2.9% of target revenue. This could be because most acquisitions happen within the sector rather than as cross-sector investments. For example, oil and gas acquisitions tend to be for oil fields and rigs — strategic fixed assets — which can easily be added to the buyer’s portfolio.
- Lastly, a sector with significant deal activity is the advanced manufacturing and mobility sector, where most reported transactions involve M&A integration costs of more than 6% of the target revenue. This higher level of integration costs can be linked to several subsector dynamics, such as the amalgamation of manufacturing facilities by chemical companies and the streamlining of administrative functions and infrastructure by automotive and transportation companies.