Value of combined firm (with no synergy)$158,467 million
Value of synergy $5,405 millionThisvaluationisbasedonthepresumptionthatsynergywill
becreatedinstantaneously.Inreality,itcantakeyearsbefore
thefirmsareabletosee thebenefitsofsynergy.Asimple
waytoaccountforthedelayistoconsiderthepresentvalue
ofsynergy.Thus,ifitwilltakeP&GandGillettethreeyears
to createthesynergy,the presentvalueof synergycanbe
estimated,usingthecombined firm’s costofcapital asthe
discount rate.
Thegreaterthedelay indeliveringsynergy,theless isthe
value of the synergy.
Valuing Operating Synergies—A Real Options Framework
Therearesomewhobelievethatdiscountedcashflowmodels
are too limiting when it comes to valuing synergy. The
synergy benefits in most acquisitions, they argue, can be
better understoodusing anoptionframework.Consider the
simpleexampleofaU.S.consumerproductcompanybuying
a small company in an emerging market with immense
growthpotential.Theacquiringcompanyisbuyinganoption
to expand in the emerging market rather than a set of
expected cash flows. Stripped down to brass tacks, what
real-optionsproponents areproposingisthata premiumbe
added to the discountedcash flow value of thecombined
firm, reflecting the time premium on the option.
6 Smith and Triantis (1995) argue that many acquisitions
createvaluableoptionsthatdiscountedcashflowmodelsdo