Friday, December 23, 2011

Risk Reduction and Cost Synergy via Supply Chain Network Integration

Nothing like waking up and having a message from a publisher that the galleys of your paper are ready for proofing.

Plus, when there are no changes needed, and the paper looks great, it makes it all even sweeter.

This morning, my co-author, Dr. Zugang "Leo" Liu, and I were delighted to experience the above and our paper, Risk Reduction and Cost Synergy in Mergers and Acquisitions via Supply Chain Network Integration, is the lead paper in the December 2011 issue of the Journal of Financial Decision Making and appears in volume 7(2), (2011), pp 1-18.

I had blogged about our research on which this paper is based in a post: Supply Chain Risk, Mergers and Acquisitions, and Synergy.

In this paper, we developed a network model that captures the costs and the risks associated not only with the production, transportation, and storage activities in supply chains, but also with the merger / acquisition (M&A) itself. The framework allows one to estimate the expected total cost and the total risk of the supply chains before and after the merger. In addition, we provided three synergy measures that can assist decision-makers in the evaluation of potential gains of M&As from different perspectives. The measures are: the expected total cost synergy, the absolute risk synergy, and the relative risk synergy.

The first measure quantifies the expected total cost savings obtained by the merger; the second measure represents the reduction of the absolute risk achieved through the merger, and the third measure reflects the reduction of the relative risk through the merger.

Our results provide interesting managerial insights for executives who are faced with M&A decisions. The first set of examples showed that, if the expected total costs and the risks of the merger are negligible, both the total cost and the total risk would be reduced through the merger. In addition, the risk reduction achieved through the merger was more prominent when the uncertainty of link costs was higher. Our second set of examples showed that the cost and the risk of merger could have a significant impact on the total cost and the total risk of the post-merger firm, and should be carefully evaluated. Our examples also demonstrated that whether a merger makes sense economically may depend on the priority concerns of the decision-makers, and on the measures used to evaluate the gains. For instance, a merger that could not lower the expected total cost might still be able to reduce the total risk, and, hence, may be considered beneficial to the firms' stakeholders.

With all the articles appearing recently in The Wall Street Journal on Mergers & Acquisitions (horizontal as well as vertical) it is exciting to be doing research that is both interesting and timely and that includes networks applied in new ways!