Page 20 - CIMA SCS Workbook February 2019 - Day 2 Suggested Solutions

SUGGESTED SOLUTIONS

EXERCISE 2

Briefing notes

To: Paul Pau, CFO
From: Senior finance manager
Subject: Acquisition v organic growth and synergies

ACQUISITION v ORGANIC GROWTH

Introduction
Pamela Simmons is concerned that Vita’s sales growth has slowed down and its return on equity
has fallen. She is keen to discuss growth options for Vita at the next Board meeting. The two most
common methods by which a company can grow are acquisition and organic growth.

Acquisition and organic growth - definitions
Acquisition is when one company takes over another. Vita was only founded eight years ago in
2011 and has not made any acquisitions yet in its short life.

Organic growth is when a company grows by launching a new product or finding new markets for
its existing products. All of Vita’s growth so far has been organic growth.

The relative advantages and disadvantages of the two methods are presented below.
Advantages of acquisition (disadvantages of organic growth)
Acquisition generally leads to quicker growth, since the new business is already set up and fully
functioning. This is a particularly important issue for Vita, because sales growth has reduced, and
Pamela is keen to arrest this decline quickly.
After an acquisition, the integration of two businesses can lead to an exchange of ideas and
methods which can help to make both businesses more efficient.
Also, economies of scale can be generated after an acquisition. In the consumer electronics
industry, economies of scale can be significant because research and development makes up such
a large proportion of costs. Therefore this factor could be particularly important here.
Acquisition helps to avoid the risk of failure which is always associated with setting up a new
business.
Acquisition can eliminate a competitor from the market place, thus reducing the risk attached to
future earnings.
When one firm acquires another, synergies (value gains) are often achieved, so that the combined
firm is worth more than the two firms individually. For example, there could be savings in
marketing costs if two companies decide to target customers together rather than independently.
These savings will lead to value gains for the combined firm’s shareholders. Synergies that could
be generated if Vita decided to acquire another company are covered in much more detail below.

Disadvantages of acquisition (advantages of organic growth)
Organic growth is usually cheaper than acquisition - when a business is acquired, a premium often
has to be paid to cover the intangible assets (e.g. goodwill, patents, brand) of the target company.
Organic growth avoids the culture clashes which often arise if a business is acquired and the two
firms are integrated.

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