What is Synergy?

Mergers and acquisitions are often justified by appeal to something called synergy - the whole being worth more than the sum of the parts. For example, I found one source that divided synergies into operational synergies and financial synergies.

"Operating synergies affect the operations of the combined firm and include economies of scale, increasing pricing power and higher growth potential. They generally show up as higher expected cash flows. Financial synergies, on the other hand, are more focused and include tax benefits, diversification, a higher debt capacity and uses for excess cash. They sometimes show up as higher cash flows and sometimes take the form of lower discount rates."

Aswath Damodaran, The Value of Synergy (pdf)
Stern School of Business October 2005

Some systems thinkers would not regard economies of scale and other cost savings as genuine synergies. They prefer to concentrate on the positive improvements to income and growth, as well as the indirect social benefits. From an accounting perspective, there is no essential difference between higher revenue and lower cost - if the whole costs less than the sum of its parts, for a given quantity of output, then it must be worth more. But a systems perspective may reject this kind of accounting perspective.

From a systems perspective, we are probably also interested in network effects and indirect value. Consider the "benefits" to users if Linked-In merged with Facebook, thus increasing the size of everyone's network. (There are probably better examples than this one.)

What I think is useful is to unpack the basic definition of synergy. Synergy means the whole is worth more than the sum of its parts.

WORTH

• To whom? Shareholders, customers?
• From what perspective? Stock market, competition?
• How measured? Financial value, indirect value?

MORE THAN

• What timescale? Some kinds of synergy may be almost immediate, such as increased bargaining power.

SUM OF PARTS

• How composed, what is the nature of the composition. Among other things, we might consider how composition by merger produces any different kind of synergy than composition by partnership or any other arrangement. 
• Clearly merger is not the only way to achieve operational synergies. One of the challenges for post-merger integration is to make structural and behavioural changes to systems that will release the promised synergies. Some disciplines, such as enterprise architecture (EA), concentrate on the formal structural and behavioural aspects of merging systems, but there are many other issues, including culture, that are not in the standard EA toolbox.

Overall, I think we must recognize that synergy is in the eye of the beholder. Often companies play a game of making the synergies look very high when talking to the stock market, while downplaying the synergies when talking to regulators. They try to persuade the regulators that the merger will create jobs and allow them to offer a better deal to customers, but this is of course totally incompatible with what they've told the City.