Are you giving M&A integration costs the attention they deserve? Integration costs Although it might seem intuitive to estimate integration costs based solely on deal size, our extensive research and experience reveal that costs are much more indicative of the degree of change required in the integration plan rather than the sheer transaction size. Put another way, change is the key driver of integration costs, as exemplified in three areas: 1. Cost savings targets (and, to a lesser degree, revenue or growth synergy targets) 2. Regulatory or compliance-related adjustments resulting in changes to legal entities, reporting requirements, risk mitigation or redefined quality standards 3. How much integration governance and third-party support are required to make the integration a success Clients frequently ask what they should budget in terms of one-time integration costs Severance and Supply chain and retention for an acquisition or merger. procurement Often, very little time is spent Em ploy sts ee l co -r Pension and thinking about these costs. At na e Sales and o la benefits ti t c e marketing n d best, they are underestimated, u F c o Value creation s t and in some cases, they s are ignored or forgotten Comliance Governance altogether, leading to either Research and Legal and budget overruns or, worse, development regulatory underspending in critical areas. Real estate and IT and systems facilities We reviewed more than 70 deals* (announced, closed or effective mergers and acquisitions) from 2010 to 2016 valued at over US$1b each with publicly listed buyer companies. The range of publicly reported integration costs was very wide — from US$4m at the low end to US$3.8b at the high end. While every deal is different, we observed four trends around integration costs. *Deals in the financial services and real estate industry, deals with multiple buyers, private equity firm acquisitions and deals in which the buyer is headquartered outside the US were excluded 2 3 Integration cost (US$m) cost Integration Announced cost synergy (US$m) 4.7% 4.3% Average integration 3.4% costs as percentages of 3.1% deal value by drivers 1 Overall average of integration costs as a percentage of deal value 3% 2.5% The best measurement of the degree of required change is the size of the synergy Real estate Severance IT/systems Sales and Legal and and employee- marketing regulatory target — synergies represent the most direct related costs 10 31 7 4 3 correlation with integration costs. umber of deals considered for calculation of average Source: EY research. More specifically, capturing Capital Confidence Barometer survey synergies requires making changes published in October 2018, companies 2 to the current operating model, that spent more on the integration Interation costs as a Interation costs as a technology, workforce, infrastructure process outperformed their pre-deal The most frequently reported drivers o eal alue of o taret revenue and other elements. Typically, the targets. In fact, those companies that Advanced 0.1% 0.3% Manufacturing and 2.6% 5.0% more that change is desired, the met or exceeded their original synergy 33 one-time integration costsMobility (AM&M) are19.8% severance 18.7% more spending will be needed — at targets spent on average 8% more (as 0.8% 2.8% least in the near term. Reducing a percentage of announced synergies) Consumer 3.4% 4 8.2% and employee-related costs, 17.8%plant, office or 24.8% the number of employees, shutting than those that failed to meet their 0.3% 0.9% Energy and down a headquarters, rebranding the ambitions. Being willing to spend 1.5% 10 3.5% real estate shutdown andUtilities (E&U) IT system changes. company or consolidating the supply money to save money seems to make 4.0% 7.2% 0.1% 0.5% Health Science and chain all result in significant costs. sense in this case. 1.3% 10.1% Wellness (HS&W) 4 So, it is logical that the higher the 21.0% 23.5% Severance costs that the buyer Building scale and breaking into new Real estate activities (shutting synergy target, the greater the change 0.3% 1.5% pays account for more than 50% of markets are someTMT of the main reasons 2.6%down properties,19 6.0% moving offices, needed and the more it costs to get 9.2% 17.3% integration costs in certain deals, for an acquisition. These acquisition and reconfiguring locations) drive there. According to the EY Global o. o eals according to EY research. This one-time drivers often bringMin new talentMedian into a Max integrationanalyie costs but are not “hit” has an annuity-like payback from business because operating in a new reported as frequently as other Source: EY research. cost savings for the foreseeable future. market may require skills and local costs. IT costs, such as licensing, Given that such costs often creep back knowledge that the acquiring company consultant and reconfiguration in over the near term, it is critical to lacks. Companies may need to place fees, round out the top three track these cost synergies for at least more emphasis on the talent that they integration cost drivers. three to five years post-close. are acquiring and put the resources Between 5b Between in place to secure the commitment of Correlation between individuals who are essential to the announced cost synergy organization’s future success. and integration costs Integration costs ($b) costs Integration Belo .5b Belo Belo b Between b to b Announced cost synergy ($b) 4 5 4 4.7% Integration costs vary by sector4.3% . 3.4% Certain sectors we studied illustrate • The energy and utilities sector has • Lastly, a sector3.1% with significant variances in integration costs in the lowestAverage integration for integration costs costoverall, as a percentagedeal of activitydeal value is 3% the advanced2.5% relation to deal value as well as target with a median of 2.9% of target manufacturing and mobility sector, revenue. For example, consumer, revenue. This could be because where most reported transactions health care and life sciences sectors most acquisitions happen within the involve integration costs of more show higher integration costs relative sector rather than as cross-sector than 6% of the target revenue. to deal value and target revenue, investments. For example, oil and This higher level of integration compared with the energy and gas acquisitionsReal estate tend to Severancebe for oil IT/ Systemscosts canSales be and linked toLegal several and and employee- marketing regulatory utilities, and technology, media and fields and rigs — strategicrelated fixed costs subsector dynamics, such as the telecommunications (TMT) sectors. assets — which can easily be added amalgamation of manufacturing Hence, the integration costs for a deal to the buyer’s portfolio. facilities by chemical companies and might vary if we look at them from the the streamlining of administrative lens of the target sector. Here are some functions and infrastructure by examples: automotive and transportation companies. • In the consumer sector, integration costs tend to be driven by deals in the consumer products subsector Interation costs as a Interation costs as a o eal alue o taret revenue that focus on product innovations, Advanced 0.1% 0.3% as opposed to deals in the retail manufacturing and 2.6% 33 6.4% 3 mobility 19.8% 18.7% space, which hover around operational efficiencies. 0.8% 2.8% Consumer 3.4% 4 10.0% Deal size has some bearing on integration costs — 17.8% 24.8% • In health care and life sciences, the 0.3% 0.9% Energy and integration cost median was at 7.6% 1.5% 2.9% but only loosely. Despite deal size, integration utilities 10 of target revenue, possibly driven by 4.0% 7.2% 0.1% 0.5% compliance with regulatory, safety Health care and costs can range from 1% to 7% of deal value. 1.2% 7.6% life sciences 4 and quality standards, as well as 21.0% 23.5% consolidation of the research and 0.3% 1.5% development function. TMT 2.6% 19 6.0% According to EY research, deals valued The tendency for integration costs terms of percentage of deal value. 9.2% 17.3% above US$10b incur, on average, to increase marginally when the deal The real reason small deals are more o. o eals Min Median Max lower integration costs than deals size goes down could be because expensive than bigger deals is likely analyze valued below US$10b, measured as a larger deals are oftentimes scale that there are many fixed integration Source: EY research. percentage of deal value. In the deal deals in which a company is buying a costs not linked to deal size (e.g., costs value range of US$5b to US$10b, direct competitor and can more easily of regulatory filings, IT-related fees and the integration costs ranged from 1% integrate its similar products, services management consulting fees). When considering an integration, the best predictor of integration costs is the to 5% of the deal value. In the lower or facilities. In some smaller deals — for Conclusion size of the synergy target. Companies would be better served by realistically deal value range of US$1b to US$5b, example, the purchase of a smaller calculating costs to achieve these targets, as well as including the cost of the integration costs increased to 2% to company that makes an innovative expertise required to successfully execute the transaction. 7% of the deal value. In reality, this product — the costs to integrate a The EY organization has done extensive research on this topic.