For 5 years running, the Bloomberg News Climatescope report has ranked Chile as the most attractive emerging market for renewables investment. After reaching its 2025 target of 20% clean energy generation five years early, the country is now looking at 40% by 2030. It also wants to eliminate the use of coal and become the leading exporter of cheap hydrogen by 2040.

Over the past few years, Chile has attracted over 20 billion dollars in renewable energy investments, due in no small part to its well-structured electricity sector, with dollar-denominated PPA auctions and bilateral contracts with large consumers available outside the regulated market.   

The M&A Community, a global network of professionals dedicated to providing reliable intelligence, expert analysis, and networking opportunities, arranged an online roundtable, chaired by Óscar Parra, to discuss Chile’s renewable energy sector, which is expected to see a significant volume of M&A activity in the next few years.

What are the deal challenges from the business development perspective?

Definitely the biggest challenge is the uncertainty stemming from recent regulatory changes, not least the greater autonomy for local government.

Next is how much longer it is taking to obtain permits, way beyond the statutory deadlines. Some reasons for this are systemic, such as administrations not having the resources to cope with the renewable energy boom, others are Chile-specific, such as the different reasons each imposing their own criteria for permits.

Connections are becoming increasingly complex from both technical and administrative perspectives. So we are seeing the term “curtailment” used a lot and this is causing some concern regarding asset valuation.

There is also a mismatch between areas of resource and consumption and a lack of parallel investments in grid reinforcement. And some areas are currently viewed as higher risk, leading to a concentration of projects in some regions and none in others.

All these challenges mean development costs are higher; overall, the time required to develop a project has almost doubled compared to four or five years ago. But project sale prices are not rising to match; they are falling.

And what about opportunities for dealmakers in the renewable energy sector?

On the plus side, there are two key areas of opportunity:

• PPAs: increased demand for renewable energy, especially in the short term, is leading to slight price increases.
• New technologies: New regulations are still out for consultation, but the technology is mature and capital expenditure is reducing, making storage systems an attractive option at this time.

New technology offers both opportunities and increased risks, but it also promises higher profitability. It’s all about getting the right balance between the current short-term challenges and emerging opportunities.

So, if you were to sum up what we might expect in the next couple of years, what would your analysis be?

In the short term, there is negativity surrounding permit and connection issues and regional uncertainties.

The medium and long-term prospects are much sunnier with growing demand, excellent solar resources, and an expanding mining industry driven by the global transition to renewable energy consumption.

Alfonso, what can you share about your company’s experiences? 

BTG Pactual has a strong focus on renewable energy and infrastructure assets and over the last few years, we’ve been involved in several M&A transactions.

Last year there were 7 closed transactions in Chile involving utility-scale assets (those with a capacity of at least 50 megawatts) and we are seeing similar levels of activity this year.

How do you see the renewable energy market in Chile? Who are the big players in the industry? 

I would classify 4 main types of investors in this sector:

1. The Big Four: Enel, AES Andes, Colbún, and ENGIE Chile
2. Renewable platforms: Innergex and Sonnedix
3. Infrastructure funds: both local, such as Todesca, and international players like Brookfield and BlackRock
4. Chinese companies

Key to the M&A analysis process is the eternal question of whether it’s better to buy an existing asset or build a new one. While the former saves time in permitting and construction etc. it may also have a reduced future lifespan compared to a newly constructed one. And while the valuation of a PPA can be separated from the asset itself because PPAs are often treated as financial assets, the value of a new project will depend on how easy it is to get off the ground as well as its future potential.

But all in all, despite the challenges, the renewable energy market in Chile remains highly active for the foreseeable future.

What are the main regulatory and legal considerations when analyzing a renewable energy project or the sector as a whole?

Firstly, the open access that Alfonso mentioned. Yes, this means that there are few barriers to entry for new projects, but it can lead to an oversupply of projects in one location, resulting in the curtailment issues Diego referred to. So technical advisors need to look beyond their specific project and consider what other projects might be queued up behind it.

With Chile’s renewables goals becoming ever more ambitious there is pressure to keep adding new projects, even if this is not the best use of resources and adds to delays. So when assessing any project you have to bear in mind what might happen in the future.

Another factor is location, with regions having different legislation, connection possibilities, potential actors that might be affected, and permitting processes.

And what about PMGDs and PPAs?

PMGDs (Small Distributed Generation Projects), once so desirable because they offered stable tariff rates similar to FiTs, are now facing curtailments due to transmission limitations.

PPAs used to be a big plus when we were evaluating a project, but the cost of servicing can be significant for both buyers and sellers, and we are seeing a rash of PPAs that are more financial in nature.

So we may need to reevaluate our approach to ensure that projects can thrive in this evolving market.

How do you analyze the current political risk factor in Chile, especially if RCAs (Environmental Qualification Resolutions) are delayed for political reasons?

It’s true that the revocation of some RCAs has affected the markets, but, given the status of our EU visitors today, I believe that the Energy Ministry does understand the importance of energy’s role in development.

Do you believe that the Chilean regulatory framework is adequate to ensure production of green hydrogen over the next 30 years?

Most countries are struggling to update their regulatory framework to keep up with the increasing pace of technological change. Chile is beginning to regulate storage, but green hydrogen is different: for a start, we need a legal definition for it.

How do you think green hydrogen will impact Chile’s development, considering its potential? 

I do believe the potential for green hydrogen is significant, but I see it as a long-term opportunity because the technology is still in its early stages. Hydrogen from oil and gas is extremely cheap at the moment, though the situation is evolving.

What is the average timeline for solar or wind projects between 100 to 150 megawatts?

That depends not just on the size of the technology but also on the associated PPAs and their risk type. I can tell you that in the last five years or so, implied returns of M&A transactions have been around 10 to 12% in dollars at the equity level.

Have you seen any country where there is a time limit to maintain the offered price in a tender due to market volatility? For example, in Ecuador, two large projects were awarded two years ago, and one only managed to sign its concession contract two months ago and the other is still under negotiation.

I’m not familiar with the regulations in Ecuador, but I think that the contract has to be signed by the Council of Ministers which makes the timeline unpredictable, something that always adds risk for investors.

But if you are familiar with the country where you are investing and feel comfortable in that region, you are more likely to invest because you won’t let today’s political noise interfere with your long-term investment decision.

What is your opinion on non-compliance with PPAs by distribution companies, such as María Elena Solar and others?

I remember the Campanario problem in 2012: without a guarantee bond system in place, companies in the market took a long time to recover what they were owed. Today that’s no longer the case, as the bonds prevent a domino effect.

With Maria Elena, there was a PPA dimensioned for 24 hours with a solar plant, which was potentially unlawful. So, a lot depends on how that liquidation process unfolds. If they can sell it as an asset or a business unit and continue operating the asset, that’s great; if it ends up being sold in parts, that’s not so good.

As for Caos Leones, a few days ago, they sent a letter to the administrator asking how they can reintegrate into the system. And Copie Web seems to be more about a construction delay. Clearly, the market is stressed, so we are all watching closely what happens with Maria Elena.

Are banks still interested in financing M&A transactions or new projects, given the market risks and recent insolvency cases in the market?

Yes they are, but it does depend on the project and, as I mentioned earlier, the characteristics of the associated PPAs. Financing is currently one of the major concerns for banks so PPAs with no annual risk are undoubtedly more attractive.

However, debt and leverage ratios have fallen compared to what we saw some years ago, and there have been a lot of distressed asset transactions recently. So, I think precautions are being taken, and financing merchant assets is more challenging.

What is the minimum and maximum price per megawatt for the sale of a solar park with approximately 3 years of operation?

Each case is different, as I mentioned earlier and you have to evaluate the assets in separate parts. Depending on the technology, and the resource, in general terms there tends to be a correlation between the market-to-market of the asset, the cost of building from scratch, and M&A transactions. For example, the transaction reported last week for AES Andes by Bolero Solar, sold for $770,000 per megawatt, and the asset had been in operation for five or six years.

How do energy prices in Chile, both bilateral PPAs and the energy exchange market, impact the entry of new solar and wind hybrid projects, nodal risk, and increased demand from the mining industry?

Location is key: for instance, two solar projects, one in the north and the other in the south, have very different technical constraints from the grid, as well as supply and demand issues. So, prices will depend on location, and secondly, technology.

I think we will be seeing fewer standalone solar products and more hybrid products, combining different technologies to spread the risk. If you want to hedge, you can sign a PPA with a corporate off-taker, one of the Big Four that Alfonso mentioned. But again, the price offered by the off-taker will depend on your project’s location and the timeframe.

In conclusion, prices very much depend on location and technology, and if you add storage, that’s another complication. You need to weigh up when and how you incorporate storage, based on future price scenarios.

The future of the Chilean renewable energy landscape

In 2018, the Chilean government launched an energy roadmap to 2022, focusing on modernizing the sector’s regulations and policies. As a consequence, installed solar and wind capacity increased dramatically, from 0.1% in 2017 to nearly 37% last year. Plus, distributed solar generation increased fourfold between 2018 and 2020, and last year, renewable energy generation accounted for 55% of total electricity generation.

It’s clear that Chile’s renewable energy sector has the potential to grow even further in the next few years. At the moment, according to Acera, the Chilean renewables’ association, there are 6,950 MW of renewable energy and storage projects now under construction in Chile. About 68% of them are solar projects and 25% are wind projects.

In addition to that, another 231 MW of storage projects are currently under construction (68 MW have received approval, and 57 MW are under review). And the Chilean authorities have recently announced a $2 billion tender mechanism for energy storage to maximize the use of renewable energy generated in the northern part of the country.

The legal aspects of an M&A deal are as important as the financial aspects. Let’s see why. 

A target company and an acquirer should carefully prepare and draft all the necessary documents and regulations to close the deal with no losses or undergo regulatory approval successfully. For this, they cooperate with M&A legal specialists who assist both sides at every stage of the M&A transaction.

What is M&A law? What are the main legal aspects of mergers and acquisitions? What is the role of legal firms in the M&A process? Continue reading to get answers and learn more about mergers and acquisitions law.

What is mergers and acquisitions law?

Mergers and acquisitions law refers to the branch of corporate law that addresses the area of mergers and acquisitions specifically. It tackles all the legal aspects that come with the process of a merger or acquisition, from the negotiation of the deal value to the contract drafting. 

M&A are complex transactions that involve several legal aspects and that’s why it’s essential for a company to take care of all the legal risks associated with an M&A operation. That’s exactly how merger and acquisition law specialists help a company. They communicate with clients, lawyers, and business executives and handle all the documents: from financial statements to intellectual property and the definitive agreement. 

Top 11 legal issues in mergers and acquisitions

Generally, all the legal aspects of mergers and acquisitions a company deals with can be divided into three main stages: 

• Getting the deal
• Processing the deal
• Closing the deal 

These are the main legal aspects that occur at each stage:

Getting the deal

1. Non-disclosure agreements (NDA)
2. Letter of intent (LOI)
3. Deal structure

Processing the deal

1. Due diligence
2. Equity and cash consideration
3. Working capital adjustment
4. Representations and warranties
5. Non-competes and non-solicits

Closing the deal

1. Target indemnification
2. Closing conditions
3. Definitive purchase agreement

Now, let’s review in more detail what each of these legal issues presupposes.

1. Non-disclosure agreements (NDA)

Every M&A deal starts with the signing of NDAs for both parties: the acquiring company and the target company. This document serves as protection for the buyer and seller to share sensitive information with each other during due diligence. 

2. Letter of intent (LOI)

A letter of intent is a non-binding contract that a buyer sends to the seller to demonstrate an interest in a potential deal and make a formal offer for the company. This usually includes the exclusivity period, proposed deal structure, and initial purchase price range.  

3. Deal structure 

Typically, there are three options for structuring the deal:

• Stock deal: the buyer purchases the selling shareholders’ stock directly. In this way, the buyer gets ownership in the seller’s legal entity.
• Asset deal: the buyer aims to purchase the operating assets of a business instead of stock shares.
• Merger: mergers, together with acquisitions, are a widely adopted strategy for companies looking to increase value, achieve growth, or expand market share. 

Both sides of the deal have their own legal interests and considerations within each option. That’s why it’s important to address all the legal issues when negotiating the deal structure. Every deal structure has different legal ramifications, such as tax consequences, transferring liability, shareholder approval, and third-party contractual consent requirements. 

Mergers and acquisition law specialists tackle these issues and help to determine the most appropriate deal structure.

4. Due diligence

Legal due diligence is one of the key processes that law specialists are involved in during the deal. This is a process of thorough analysis and review of the target company’s documentation to make sure it’s ready for the deal and to reduce any legal risks that can lead to litigation. Often, companies have their own ready-to-use legal diligence template to follow that makes the due diligence process even more straightforward.

5. Equity and cash consideration

This stage of the legal M&A process involves consideration of the deal payment method. It can be either cash or equity. Naturally, lawyers take part in such negotiations.

6. Working capital adjustment

The process of working capital adjustments is often a part of the purchase price negotiation during mergers and acquisitions. This is because the acquiring company wants to make sure the target has adequate working capital that enables it to meet its before- and post-closing requirements, including obligations to trade creditors and customers. 

Working capital calculation helps to avoid such problems as best collection or delayed inventory purchasing.

7. Representations and warranties

Representations and warranties are essential for the acquisition process. 

An acquiring company expects a target to include representations and warranties in the definitive agreement. This means that the target has addressed such issues as taxes, financial statements, authority, capitalization, legal compliance, intellectual property, data privacy, and material contracts. 

Mergers & acquisitions law specialists should carefully consider this area with the target to avoid indemnification claims from the acquirer in case of breaches.

8. Non-competes and non-solicits

These regulations are important legal aspects of almost every large M&A deal. 

Non-compete and non-solicit agreements are the target company’s or acquirer’s legal promise not to engage in any competitive business activity for the defined time frame. This is a kind of legal insurance that allows for protecting intellectual property, which is unique to specific industries, such as tech and medicine.

9. Target indemnification 

This is the essential part of the closing conditions negotiation in mergers acquisitions law.

Target indemnification is another opportunity for the acquiring company to protect itself against contractual breaches from the target company.  

These terms describe what types of indemnification clauses lead to the deal’s annulment and specify the procedure of the target company repaying the pre-agreed amount up to the value of the closing price.

10. Closing conditions 

Closing conditions are usually a section in a definitive agreement that lists all the conditions which must be met by both sides to close the transaction. Sometimes the list of required closing conditions is included in the letter of intent.

Typically, closing conditions list such requirements as board approval, shareholder approval, absence of any material changes in the target company’s business, and certain financial conditions.

Acquirers usually require at least 90% of shareholder approval to avoid potential complications such as appraisal claims.

11. Definitive purchase agreement

This is the final agreement between an acquirer and the target company, which represents the deal’s closure. 

Given its irreversible nature, legal specialists on both sides should carefully draft this legally-binding document carefully before signing it.

Mergers and acquisitions litigation

This part of mergers and acquisitions law deals specifically with types of litigation that can occur during the pre- and post-signing process:

Legal specialists would be the ones to consult an acquirer or target company on various issues such as conflicts of interest, disclosure obligations, change-of-control payments, or required deal protection measures.

Role of M&A legal firms in the M&A process

M&A legal firms deal specifically with mergers and acquisitions and, therefore, have the expertise required to conduct deals smoothly and efficiently.

M&A legal firms provide various services to their clients, including assistance with the due diligence process, negotiation, and contract drafting. They assist the buyer or the target company with all the legal aspects of the M&A transaction and all types of possible litigation.

Key takeaways

• Mergers and acquisitions law deals specifically with the legal aspects of M&A transactions. These usually include everything from the letter of intent to the closing conditions and definitive purchase agreements. 

• M&A legal firms assist the buyer and the seller at every stage of the transaction and handle legal issues to avoid possible complications, such as all types of litigation.

A merger describes the process of two privately held companies or public companies uniting into one completely new entity to face strong prospects in the industry or conquer new markets. These two companies are of comparable size and have similar growth goals. A new legal entity gets unique branding, and a new stock price is formed.

Dealmakers opt for mergers and acquisitions for many different reasons: it might be to grow the business, to diversify, to avail of tax benefits, to achieve revenue synergies and more. Consequently, the M&A deals scenario presents itself as miscellaneous with many types of deals reflecting the needs of dealmakers.

This article discusses horizontal and vertical merger as the main types of mergers and acquisitions. Read on to learn the difference between a horizontal vs vertical merger and explore real-life examples of horizontal mergers and vertical mergers.

What is a horizontal merger?

A horizontal merger occurs when two or more companies operating in the same industry merge into one combined company. A horizontal merger is also often called a horizontal acquisition.

Such a merger in one company helps two different companies from the same or similar industry to eliminate the competition in their market and gain a larger market share.

For example, if two companies sell similar products, their combined horizontal merger helps to increase market share. Or, when one company sells complementary products to the other, the merged company can then offer a wider range of products to customers and thus diversify its offerings and explore new markets.

Horizontal mergers are usually strictly monitored by governments to keep fair competition. This is because such mergers can create monopolies in the market.

Reasons for horizontal mergers

The main purpose of a horizontal merger is to create value. A successful horizontal merger should create value, where combining two companies are worth more than when each company operates individually. In other words, “1+1” should be bigger than “2.”

Other reasons for horizontal mergers include:

• Reducing competition in the market
• Increasing market share and market power
• Reducing costs
• Achieving economies of scale
• Enhancing diversification
• Benefiting from combining complementary skills and resources

What is a vertical merger?

Unlike horizontal mergers, a vertical merger occurs when two or more companies operating at different stages of production merge. In other words, the acquiring company and target company operate in one broad industry but at different stages of the same supply chain.

Vertical mergers take place when, for example, a manufacturer acquires a supplier, and together, they become a combined company that operates in one supply chain for a certain item’s production.

Reasons for vertical mergers

Just like with horizontal mergers, the key purpose of vertical acquisitions is to create value. The merger is considered successful when a single company formed from separate entities is worth more than the combined companies are worth together. In other words, “1+1” should be bigger than “2,” again.

Other common reasons for vertical mergers include the following:

• Increasing efficiency
• Reducing costs
• Increasing profits 
• Gaining merger synergy (operational, financial, and managerial)
• Ensuring greater quality control
• Ensuring better flow and control of information alongside the supply chain

Examples of vertical and horizontal mergers

Let’s briefly review some of the most famous examples of vertical vs. horizontal merger.

Horizontal merger

One of the most famous examples of a horizontal merger is the deal between Walt Disney and Pixar, announced by the Walt Disney Company on January 24, 2006, signed on May 5, 2006, and worth $7.4 billion.

Disney is a mass media and entertainment company, and Pixar is a notorious computer animation studio. At the time of the merger announcement, Disney’s own animation films were failing, while Pixar’s animation production was successful. The main purpose of the merger was Disney’s desire to improve the quality of its products and reduce the competition in the market.

The deal is still considered one of the most profitable mergers, with the incredible success of such animated movies as Cars 2, Toy Story 2, or Up.

Vertical merger

One of the most prominent examples of a vertical merger is the deal between eBay and PayPal, announced by eBay in August 2002, signed on October 3, 2002, and worth $1.5 billion.

This is a classic example of a vertical merger. eBay is an online shopping platform, and PayPal is an online money-transferring service that allows customers to make payments.

With this acquisition, eBay wanted to gain control over a popular payment service and increase the number of online payments via eBay. However, despite the temporary positive outcomes, PayPal became an independent company after eBay spun it off to shareholders in 2015.

Pros and cons of horizontal and vertical mergers 

Now, let’s take a closer look at how exactly companies can benefit from horizontal and vertical mergers and the downsides of such integrations.

Pros of horizontal mergers

• Reduced competition
• Faster inorganic growth
• Expanded business segments
• Increased production
• Business diversification
• Economies of scale
• Increased market share 

Cons of horizontal mergers

• Integration challenges
• Tighter governmental control
• Challenges with different management styles
• Certain product’s elimination

Pros of vertical mergers

• Enhanced efficiency
• Efficient quality control
• Operational cost reduction
• Improved management and administrative functioning
• Stronger production and distribution channels

Cons of vertical mergers

• Additional costs for maintaining adequate control
• Risk of losing key personnel
• Possible corporate culture clashes

Differences between a vertical and a horizontal merger

Horizontal and vertical mergers mainly differ in three concepts: nature, purpose, and independence.

Nature

• A horizontal merger takes place when two similar companies operating in the same or similar market and direct competitors merge into one company.

• A vertical merger occurs when two companies that operate in the same supply chain but provide different products or business services and are not competitors merge.

Purpose

• The key reason for a horizontal merger is to increase market share and eliminate the existing competition.

• On the other hand, the main reason for a vertical merger is to reduce costs and improve the current functioning of a supply chain.

Independence

• After a horizontal merger, the combined company doesn’t become independent in its operations. It still depends on other service providers when completing the supply chain.

• Whereas after a vertical merger, a combined company might become fully independent in its operations. This is possible because two entities that are at different levels of the supply chain merge and fill each other’s needs.

How to understand which merger is suitable for you?

Knowing what type of merger best suits the needs of your business is essential. This is because after you’ve determined the merger you need, you can start searching for the most appropriate candidate in the market.

At the same time, the choice of merger solely depends on your business needs.

For example, horizontal mergers are more recommended in case you seek an increase in market share and the possibility to reduce the competition.

On the other hand, vertical mergers might be a better option if you want to become a stronger competitor yourself and reduce costs.

Key takeaways

• A horizontal merger takes place when two companies from the same or similar industry merge.
• A vertical merger occurs when two companies that operate in the same or similar industry yet at different stages of the same supply chain merge.
• The difference between a horizontal merger and a vertical merger is that during horizontal mergers, a buyer and an acquired company are direct competitors, while during vertical mergers, two companies operate on the same supply chain and are not competitors.
• Among horizontal mergers examples, the most famous is the deal between Walt Disney and Pixar.

• Among the top vertical mergers examples, the brightest is the deal between eBay and PayPal.

When two or more companies combine to either generate more profits or reduce costs together, they generate a synergy.

In M&A, companies have a clear top priority: to unlock the full potential of the financial benefits associated with the M&A process, hence the importance of synergies and of maximizing them. Numerous studies indicate that achieving initial synergy targets poses a significant challenge to corporates. For example, research conducted by Deloitte reveals that only a meager 25% of acquirers actually manage to achieve at least 80% of their synergy targets.

This article aims to equip companies with the knowledge to navigate the complexities of synergies in mergers and acquisitions. It offers a comprehensive, but non-exhaustive description of the types of synergies, explaining how to calculate them, and giving examples of companies that demonstrated significant success after M&A.

What are M&A synergies?

M&A synergies, also known as merger synergies or acquisition synergies, refer to the benefits or advantages that can be achieved from merging two companies or the acquisition of one company by another.

More specifically, M&A synergy refers to the notion that the combined value, operations, resources, capabilities, and market presence of the new entity are greater than the sum of separate entities, both in cost savings and incremental revenue.

Let’s consider this example: Company A is valued at $300 million, while Company B is valued at $150 million. However, after the merger, the combined company is valued at $500 million. In this scenario, the merger has created an M&A synergy of $50 million.

This means that the value of the merged firm exceeds the sum of the individual values by $50 million, demonstrating the potential financial benefit.

Here are some real-world examples of M&A synergies:

• Disney and Pixar. When Disney acquired Pixar Animation Studios in 2006, they combined their animation capabilities, talent, and production resources. This integration allowed for the creation of successful Hollywood blockbusters like Toy Story, Finding Nemo, and Frozen.

• American Airlines and US Airways. The 2013 merger between American Airlines and US Airways created the biggest airline in the world. The combined firm gained access to an expanded network of routes, increased flight frequencies, and a larger customer base.

Types of synergies in M&A

Usually, cost and revenue synergies are considered as the two key types of synergies, but there are also other types as we will see later on.

Cost synergies

Cost synergies in M&A refer to the potential cost reduction that can be achieved when two separate companies consolidate.

The most common ways in which companies seek to extract cost synergies include:

• Workforce optimization. Workforce-related cost synergy can be achieved through staff reductions, eliminating redundant positions, optimizing the organizational structure, and reducing professional services fees.

• Supply chain optimization. Combined companies can optimize their supply chains by consolidating suppliers, improving logistics, reducing transportation costs, and enhancing inventory management.

• Facilities consolidation. Cost synergies M&A can be realized by eliminating redundant facilities and consolidating offices or other capital assets such as factories or warehouses.

• IT systems integration. Integrating information technology systems can result in cost savings by eliminating duplicate software licenses, hardware infrastructure, and IT support. 

Revenue synergies

Revenue synergies in M&A refer to the potential increase in revenue that can be achieved when two companies combine their operations. These synergies arise from the complementary nature of the merging entities’ products, services, or customer bases.

Here are some examples of revenue synergies M&A:

• Cross-sales. Merged firms can leverage their combined product portfolios and customer bases to cross-sell products or services. For instance, a technology company acquiring a software firm can offer their existing customers the newly acquired software as an add-on product for more revenue. In fact, about 40% of revenue synergies come from cross-selling.

• Market expansion. By combining businesses, a new entity can expand its geographic presence, reach a new market with a broader audience, and produce higher revenue.

• Patents. Access to patents or other intellectual property can enable the companies combined to develop more competitive products, resulting in revenue synergy.

Financial synergies vs. operating synergies

Apart from the above-mentioned cost and revenue synergies, there are other two types of synergies in M&A: financial and operational synergies. The first one is the result of the improved efficiency of financial activities (e.g. the reduction in the cost of capital), while the second arises from the improvement of operating activities (e.g. the reduced costs from economies of scale).

Here are some examples:

• Tax benefits. Mergers and acquisitions can provide opportunities for tax efficiencies, such as optimizing tax structures, utilizing tax losses, and taking advantage of tax incentives, leading to reduced tax liabilities and improved financial performance.

• Increased cash flow. Financial synergies M&A can contribute to increased cash flows for the merged entity, improving liquidity, investment capabilities, and financial flexibility.

• Better capital structure. Mergers and acquisitions can result in an improved capital structure by optimizing the debt and equity mix, reducing borrowing costs, enhancing credit ratings, and achieving a more efficient allocation of capital resources.

Examples of synergy in mergers and acquisitions

Here are 3 real-life synergies examples that demonstrate tangible benefits that companies can achieve through successful M&A.

1. Facebook and Instagram

Facebook’s acquisition of the photo-sharing app Instagram in 2012 demonstrated significant success of synergies in business. By integrating Instagram’s visually focused platform with Facebook’s massive user base and advertising capabilities, the acquisition:

• Expanded Facebook’s reach and engagement, particularly among younger users
• Provided Facebook with access to the best photo-generating technology, which it had unsuccessfully tried to develop on its own earlier
• Facilitated Instagram’s user growth.

2. Amazon and Whole Foods

Another example of successful synergy is Amazon’s acquisition of Whole Foods in 2017 which allowed the e-commerce giant to enter the grocery market. This acquisition: 

• Provided Amazon with a physical retail presence and access to Whole Foods’ loyal customer base
• Enabled Amazon to leverage its e-commerce capabilities, such as online ordering and delivery, to enhance the customer experience at Whole Foods
• Allowed Whole Foods to leverage Amazon’s digital platforms and technologies to improve its online presence and reach.

3. Procter & Gamble and Gillette

The merger of P&G and Gillette in 2005 resulted in several synergies. More specifically, the operation:

• Allowed for cross-promotion of P&G and Gillette products, leveraging their respective customer bases and distribution channels
• Expanded international presence of two companies
• Facilitated the exchange of talent and expertise between P&G and Gillette.

How to value synergies in M&A?

Valuing synergies is an important aspect of M&A. It involves determining the monetary worth of the expected benefits resulting from the merger or acquisition. While there is no one-size-fits-all approach, there are several commonly used methods:

 1. Comparable transactions

Analyze similar M&A transactions in the industry to value the premiums paid and the market’s perception of synergies.

2. Discounted cash flow (DCF) analysis

Forecast the future cash flows expected to be generated by the united entity and discount them to present value. Incorporate the estimated synergies to determine their impact on the overall value of the transaction.

3. Market capitalization method

Assess the market value of the target company before the announcement of the merger or acquisition. Compare it with the post-announcement market value to estimate the value attributed to the expected synergies.

How to calculate synergies?

To calculate potential synergies, it’s recommended to:

1. Establish the transaction assumptions using one of the methods for evaluation, like comparable transactions, DCF analysis, or market capitalization
2. Combine the revenue of the acquirer and target to determine the total combined revenue
3. Calculate the combined cost of goods sold (COGS) by adding the individual COGS of the acquirer and target, adjusting for any cost synergies identified
4. Determine the combined operating expenses (OpEx) by summing up the individual operating expenses of the acquirer and target, taking into account any identified synergies in this area
5. Calculate the combined net income by considering the impact of expected revenue synergies, cost savings, and operational efficiencies on the net income of the merged entity.

Strategic buyer vs. financial buyer

There are two types of buyers in merger and acquisition transactions:

Strategic buyers:

• Are expected to pay greater premiums
• Focus on cost and revenue synergies
• Come from the same industry as a target company and can provide industry expertise to capture synergies
• Aim to enhance competitive position and generate value over time.

Financial buyers:

• Are representatives of private equity firms
• Target cost synergies and financial improvements for higher returns
• Provide expertise in financial management and operational enhancements to achieve synergy
• Focus on shorter-term investment horizon and exit strategies.

Key takeaways

Here are the main insights about merger and acquisition synergies:

• M&A synergies refer to the benefits or advantages that result from the combination of two companies in a merger or acquisition. The essence of M&A practice lies in achieving synergies.

• Revenue synergies result in increased revenue generation for the parties involved, cost synergies lead to reduced expenses, and financial synergies result in enhanced financial performance.

• Examples of successful business synergies include Disney and Pixar, American Airlines and US Airways, Facebook and Instagram, Amazon and Whole Foods, Procter & Gamble and Gillette.

• Common methods for synergy evaluation include comparable transactions, discounted cash flow analysis, and market capitalization.

• The process of calculating potential synergies in an M&A transaction involves establishing transaction assumptions, combining revenue and expenses, and considering the impact of synergies on net income.

The Colombian energy mix, still predominantly hydropower supplemented by various fossil fuels (mainly gas), has recently started a gradual shift towards the renewables sector, with the development of large-scale national projects.

New energy project auctions, longer-term contracts, income guarantees and tax reforms have already made a difference, with new M&A, particularly for solar projects, and growing interest from international investors.

Growing investments in renewable energy projects

• April 2023. Enerfín, the Elecnor Group’s renewable energy subsidiary, announced they had obtained a $57 million loan for a 129 MW solar project, their first ever investment in Colombia.
• May 2023. The renewable energy developer, Verano Energy, completed the purchase of three photovoltaic solar parks in Colombia, with a total of 296 MWp, under the new resolution of the UPME (Unidad de Planeación Minero-Energética), the Colombian regulator that delivers or assigns interconnections.
  

The second half of 2023 promises to be much more dynamic than the first 6 months of the year. New reforms and massive investment in energy transition, renewables, healthcare, digital transformation, agribusiness and tourism are on the horizon and promise to make Colombia an ever more attractive destination for foreign investment.

The Colombian M&A landscape in 2023

To provide its members with valuable insights into the latest developments in the Colombian energy market and a heads-up on likely investment opportunities in this dynamic sector, on 20 April 2023, the M&A Community, in partnership with iDeals, organized a round table discussion with three leading industry experts.

Oscar Parra started the discussion by explaining that hydro was an obvious choice for a country with so many large rivers and reservoirs and there are various tax incentives that make hydro projects more profitable. 

Government initiatives boost renewable energy

Traditionally hydro projects were sold via short-term power purchase agreements (PPAs) but, to facilitate the financing of new projects and stimulate renewables in the country, the government introduced auctions for 15-year contracts, which guarantee a predictable fixed income. 

Another new mechanism is reliability charge auctions, which allow projects to guarantee income. 

“We can see this as a clear demonstration of the government’s commitment to the sector,” commented Oscar.

And it is not only hydro that benefits. When UPME published its list of 2022 connection requests, there were 843 new projects with a total capacity of approximately 57,000 megawatts, 5,700 of which were solar. 

The fourth reliability charge auction, due to open next month, is expected to attract even more successful bids for solar projects.

All in all, the government has invested heavily in the renewable energy sector and this has encouraged many international players to invest

Oscar Parra

All of this would explain the growing interest of investors in Colombia. But are there other reasons to justify their focus on the country? 

Elena thinks that Colombia’s strong legal and judicial framework gives them confidence. There is also a clear appetite for risk: Colombia is seen as one of the most desirable countries to invest in LatAm and the January bond issue was four times oversubscribed. 

“Another super-important aspect is that the figures add up”, said Elena. Renewable projects in Colombia are profitable without the need for subsidies. Also, since the pandemic, energy prices have been going up and there is no sign of them falling any time soon, with international pressures such as the war in Ukraine and the rise in commodity prices exacerbated by local factors such as delays in issuing environmental permits.

There is also a new El Niño event due, and if hydro is affected and we have to rely on geothermal, prices will rise again

Elena Bugalla

The downside of the price rises is that the central bank has been raising interest rates to curb inflation. This is making short-term debt unaffordable and projects are being assessed in relation to a future scenario in 2-3 years when investors expect that both inflation and interest rates will have normalized.

“In the short term, higher interest rates are putting pressure on profitability and reducing the options for leveraging new projects, but Colombia has the right legal framework and conditions for investment. All in all, the appetite is there and I think the sector is super robust,” concluded Elena. 

Alejandro warned that while some brownfield projects have been refinanced, very few greenfield projects are in the financial closure phase. This is because the Colombian market is not as mature or as evolved in terms of market practices as, for instance, a country like Chile. 

“It’s also important to note that the auction PPAs mentioned at the beginning of the session are financial PPAs, with all the risks that implies,” explained Alejandro. 

Challenges and risk mitigation

Another challenge is that Colombia’s expertise in construction risks was mainly acquired on transport infrastructure projects, so there can be a disconnect when it comes to working with the more standardized international specs for a solar or wind project. 

The rapid drop in the exchange rate at the beginning of 2022, the fact that project revenues are in pesos, and also that most energy generation equipment is imported, are three factors that put financiers in the delicate position of having to find ways to mitigate exchange rate volatility.

According to Alejandro, there are two ways of mitigating the risk:

• First. By building a cushion into your financial model, e.g. some type of derivative to cover the difference between revenue in pesos and funding in pesos. You can establish a disbursement schedule linked to the EPC or supply contract, where specific dates are set to exchange pesos for dollars at a fixed exchange rate.
• Second. The company secures dollars at a fixed exchange rate that allows them to assume their commitments under the EPC, or whatever contract it may be, in dollars. At the same time, they can contain the funding in pesos from the bank and merge it into the long-term revenue of the PPA.

For Oscar, it’s also worth mentioning that the reliability charge mechanism is a way for some of these projects to access revenues in dollars. But it’s important to be aware of the risk faced by both financiers and investors.

Elena highlighted that last year, interest rates rose month on month and they’re now around 12-13%, with upper limits for long-term infrastructure projects around 8-9%, which gives a debt cost of around 20% or more, making the project unaffordable. But in recent months, the Colombian government launched some programs through development banks that allowed commercial banks to be funded at more competitive rates and this is now an alternative way of financing projects.

• Rising energy prices and potential environmental factors impact profitability
• Central bank’s interest rate hikes affect short-term debt affordability
• Market practices and construction expertise pose challenges for greenfield projects
• Exchange rate volatility requires risk mitigation strategies in financial models

Following the main discussions the panel was invited to participate in a Q&A session.

Elena, how do you see the outlook for investment, and is the delay in constructing the main distribution networks slowing investment?

I think the first thing to point out is that Colombia already has a fairly good network. What is happening, particularly in relation to wind projects in the isolated area of La Guajira to the north, is that construction of the collector transmission line has been delayed because they haven’t carried out the consultation required for the environmental permit. This isn’t just an issue for renewables, it affects several projects, and not just in Colombia. So, I think that any investor looking at Colombia needs to make sure they do thorough social and environmental due diligence and this will help mitigate the risks.

How does the El Niño phenomenon affect energy prices?

As we mentioned at the beginning, most of Colombia’s energy generation is from hydro, and because of its geographic location, the country is vulnerable to certain climatic phenomena, particularly the El Niño event, which generates droughts roughly every four to six years. When this occurs, the water levels in reservoirs and rivers decrease and we have to switch to other, more expensive, sources of energy generation. These are mostly thermoelectric plants that use fossil fuels to generate electricity. The higher generation cost is passed on to the spot price, leading to significant price increases.

Do forwards only cover the short term? What other instruments have been used?

We’ve always used forwards to cover the construction period, at least for projects with a construction schedule. The project cost is linked to the project risk so the use of forwards mitigates or even eliminates the exchange rate risk during the construction period. There may be other instruments but it’s a question of what the bank will accept, especially in Colombia where valuation is such a big issue. Unfortunately, like all risks, it’s ultimately the shareholders who carry it. 

It depends on what you are trying to fix, but you can only achieve so much. You could put in a derivative until the plant begins operating, so when repayments begin, you already have a fixed amount that will be repaid in pesos. Or, you have to resort to guarantees through a standby that you include in the EPC that covers this type of risk or assign it to the project shareholder. There are other options, such as long-term synthetic equity, but they aren’t really recommended because they use up the leverage capacity of the project and remove a lot of flexibility, i.e. if you are going to prepay the debt, you cannot refinance. So these are not solutions that we are seeing used for project finance in practice.

How do investors view the current government’s attempt to intervene in CREER and control the prices of generators?

I think that CREER has done a very good job so far. It seems to me that in Colombia, the most developed sectors are likely to be in the electricity industry. A pricing intervention doesn’t make much sense, because price increases often have nothing to do with generation. And when they tried to pass the decree it was overturned in the Council of State. So, I think ultimately this reassures investors that Colombia has a rule of law and that the rules of the game are respected. But in my view intervention is never a good thing.

And if I can add to that, from our experience in investment banking, we’ve seen that political risk generates a lot of noise, a lot of uncertainty, but the truth is that these projects have a lifespan of 25 to 30 years and an investor is not focusing on a 2 to 3-year period, but much further down the road. We’ve seen that there are players that are really interested in investing in Colombia. Only this morning we announced the financial closure of a 130-megawatt solar project, which I think demonstrates that international investors are willing to bet on Colombia, despite all the noise that is currently being generated.

Should coal-fired power plants migrate to renewable energies or stay with coal and gas to guarantee reliability?

The great thing about thermoelectric power plants is that they can produce continuous electricity because their energy generation is not contingent on the availability of a natural resource. Whereas a hydroelectric plant depends on the availability of water, so in a drought, it produces less electricity, making it an intermittent source of generation.

The downside is that a thermoelectric plant needs a continuous supply of fuel to produce the same amount of energy throughout the year. Some new renewable technologies are environmentally friendly, such as energy generation with biomass, where a new forest is planted that will capture carbon emissions as it grows and then the timber is used to produce energy. This could become an alternative, renewable fuel supply for thermoelectric plants.

How is the solar self-consumption market evolving in Colombia, how do you see appetite from investors, and what kind of foreign investors are there in this sector in Colombia?

This is a sector that is really starting to grow, mainly because of rising prices but also because of shortfalls in supply. For instance, in certain parts of the country, especially in the north, there are power outages which are a major headache for the industry. So, there is quite an appetite for solar self-consumption. If we go back to what we were discussing earlier: the challenge is how to leverage a project while dealing with the pressures of short-term interest rates. So, I think the appetite is there, and the investors are there, but the market is a bit complicated at the moment.

Yes, I would say that it’s a very interesting alternative for the end consumer since the generation cost of a solar panel will only be around 200 pesos per kWh, whereas the rate they would pay to a supplier could be as much as 500-700 pesos per kWh. So, this is a cost-saving opportunity for end consumers, and we have seen various international players investing in this type of project in Colombia.

The Transactional Growth Forum (TGF) was an event that provided analysis, insights, and forecasts based  on the current Brazilian M&A market, bringing together experts and 10 years of TTR data. Sponsored by iDeals, the 2023 edition of the event focused on the Brazilian middle market and showcased the buyer-side perspective.

The last decade of M&A transactions

Over the past 10 years, Brazil has been the leader in M&A activity in Latin America, in both volume and value. 

Specifically, the middle market deal volume has been increasing steadily, from 807 deals in 2013 to a peak of 1,834 in 2021, before settling at 1,516 in 2022. At the same time, the aggregate value has risen from BRL 112.7bn in 2013 to a 10-year high of BRL 439.6bn in 2021, before settling at BRL 231.5bn in 2022.

The number of private equity (PE) deals each year has been relatively consistent, ranging from 87 in 2013 to 110 in 2020, before falling to 64 in 2022. 

However, the aggregate value of these deals has increased steadily from BRL 17.25bn in 2013 to a high of BRL 29.17bn in 2021, before dropping to BRL 19.97bn in 2022. Venture capital (VC) deal volume has grown significantly since 2013, with an aggregate value of BRL 22.85bn in 2022. 

Where deals are happening

It is no surprise that most VC and middle market deals have been concentrated in São Paulo, but start-ups are proving attractive investments in other states. Especially in financial services, retail and distribution, healthcare, consulting, industrials, real estate and construction, natural resources, and energy deals.

CVC activity

CVC activity has exploded over the past four years, although it remains a small percentage of overall VC activity. Deal volume has doubled since 2019, and continues to grow (up to 104 deals in 2022), though the value peak was in 2021 with BRL 6,61K of CVC acquisitions. 

The services and distribution sector has been the most popular middle market draw, followed by technology and telecoms, energy, industrials, real estate and construction, natural resources, and infrastructure.

Private equity

Equity capital markets have been an effective financing route for Brazil-based issuers and a viable exit alternative for PE investors, although there have been long lulls between periods of activity, including a lack of IPOs in 2022. 

The number of PE deals declined between 2013 and 2017 but then climbed steeply, with 2021 reaching BRL 29,17K of investments. This dropped to BRL 19.97K last year, but that was still higher than in 2013.

Listed acquirers have played a significant role in consolidation, with almost twice as many deals in 2022 as in 2013, totaling BRL 132.7bn.

The event attracted an impressive range of speakers, but, we have chosen to focus our attention on selected highlights from specific panels. These panels included the following speakers:

• Clarisse Cordeiro, Innovation and Ventures Partner, Deloitte
• Laura Constantini, Co-founder and CSO Astella
• Danilo Mininel, Corporate and M&A Partner, Madrona Fialho Advogados 
• Luiz Guilherme Arakaki, Principal, Vinci Partners
• Gustavo Dalcolmo, Senior Partner, FM/Derraik
• Luiz Osório Dumoncel, CEO and founder Três Tentos Agroindustrial

Block 1: Venture capital & growth

Over the last decade, CVC has surged in Brazil, accounting for 10% of all venture capital investments in the country. Start-ups have experienced impressive growth, with transactions increasing 14-fold and the number of deals up 40% since 2019. 

Additionally, the value of VC deals has increased 103% over the same period. Historically, 61% of VC deal volume and 82% of aggregate value have been concentrated in São Paulo, but other states are now starting to attract VC interest, particularly for start-ups.

The boom in CVC is being fueled by several factors, including the trend towards digitization post-Covid, the drive to decarbonize, and companies seeking greater diversification to enhance their competitiveness. 

As a result, funds are actively seeking valuations from companies in the tech and service sectors, particularly in internet services, industry-specific software, retail, and transport/logistics. In 2022, the biggest VC deals were in financial insurance, distribution and retail, healthcare, and consultancy.

Looking ahead to the second half of the year, we anticipate more investments in tech, including telecoms, and clean energy, with opportunities within Brazil’s flourishing CVC ecosystem.

Block 2: Scale-up and consolidation

After a boom in 2022, the Colombian economy stalled in the face of high inflation and interest rates and uncertainty about the economic outlook. However, the middle market M&A landscape is slowly but steadily returning to sustained growth. Over the past decade, there has been a 9% increase in deal volume and a 24% rise in aggregate value. In comparison to 2018, these figures have increased by 10% and 31% respectively in 2022.

Consolidation in the health, education, and financial services sectors has been at the forefront of this trend, driven by digitization and the emergence of fintech. Meanwhile, deals in health and education have been focused on cost reduction and expanding into new regions.

Looking ahead to H2, the speakers predicted a greater emphasis on decarbonization, particularly in renewable energy and recycling, as well as a continued focus on digitization, including AI. Notably, the highest annual growth rates have been in electric energy (22%), wind energy (155%), solar energy (137%), waste management (45%), and agribusiness (19%).

Block 3: IPO-ready

Over the past decade, the number of companies planning, confirmed, or rumored to be planning an IPO has been volatile, increasing from 72 in 2013 to a peak of 224 in 2017 and again at 219 in 2021, but none were launched in 2022. 

Service and distribution emerged as the dominant sector of interest, accounting for 644 IPOs, followed by real estate (164), technology (154), and industry (140). 

Renewables also showed promise with 97 deals. Although finance, healthcare, and distribution were the primary focus, a Brazilian power company’s US$6.9 billion equity deal was the world’s second-largest equity deal of 2022. In addition, the privatization of Latin America’s largest utility company was successfully completed.

Panel on technology in agribusiness

During the technology in agribusiness panel, Luiz Osório Dumoncel emphasized how the agribusiness sector has already experienced significant benefits from the increased use of technology to optimize and streamline processes. 

He strongly disagreed with the notion that technology creates distance between companies and their customers, citing the example of Colombia Grain International, an app that simplifies the grain-selling process and eliminates the need for invoicing, making transactions faster and easier.

Both panelists shared an optimistic outlook on the adoption of more responsible practices and the implementation of new technologies in the industry. 

They emphasized the positive impact these changes can have on both companies and society as a whole. 

Their responses reflect the growing trend of companies placing a greater emphasis on sustainable practices and their ability to adapt to evolving regulatory and technological requirements.