Tools › Investing › Mergers and Buyouts › Merger Accretion and Dilution › Example

Merger accretion and dilution: a deal paid half in stock and half in new debt (two illustrative companies)

ToolMerger Accretion and Dilution
SourceIllustrative case computed by the tool from the definitions of earnings per share and the P/E ratio in U.S. Securities and Exchange Commission (2007), Beginners' Guide to Financial Statements, Office of Investor Education and Advocacy, Washington, DC. No published worked example is reproduced.
LevelUndergraduate

Problem

A buyer earning 500 on 200 shares priced at 40 offers a 30 % premium for a target earning 100 on 50 shares priced at 30 (money and shares in millions). Half of the price is paid in new shares and half in cash borrowed at 6 %; the tax rate is 25 % and yearly pre-tax synergies of 40 are expected. Does the deal raise or lower the buyer's earnings per share, what synergies would leave it unchanged, and who owns the combined company?

Inputs to Enter

  • Buyer: net income 500, shares 200, share price 40. Target: net income 100, shares 50, share price 30
  • Offer premium 30 %; 50 % paid in stock; debt interest 6 %; tax rate 25 %; synergies 40 before tax
  • Advanced: buyer cash used 200 earning 3 %; fees 20; asset write-up 300 over 10 years; growth 5 % (buyer) and 8 % (target); synergies 50 % in year 1, 100 % in year 2
Open the Merger Accretion and Dilution tool (loaded with this example)

Answers

  • Buyer EPS 2.50, P/E 16.0; target EPS 2.00, P/E 15.0; offer price 39.00; equity purchase price 1,950; P/E paid 19.5
  • New shares 975 / 40 = 24.375 (exchange ratio 0.975); new debt 975, interest after tax 43.875
  • Pro-forma net income 500 + 100 + 30 − 43.875 = 586.125 on 224.375 shares: EPS 2.6123, accretion 0.1123 a share or 4.49 %
  • Break-even synergies (2.50 × 224.375 − 556.125) / 0.75 = 6.42 before tax
  • All stock, no synergies: EPS 600 / 248.75 = 2.4121, −3.52 %; the buyer's P/E of 16.0 is below the 19.5 paid
  • Ownership after the deal: buyer's shareholders 89.14 %, target's 10.86 %; accretion from +11.15 % (all cash, 10 % premium) to −1.66 % (all stock, 50 % premium)
  • Advanced: debt 795, pro-forma net income 552.225, EPS 2.4612, dilution 1.55 % in year 1 (break-even synergies 31.62); year 2 EPS 2.6751 against 2.6250 alone, accretion 1.91 %

Notes

The tool's default inputs are this case; press Submit. Every figure is illustrative, so the result describes these inputs and no real deal. Accretion and dilution are arithmetic descriptions; a rise in earnings per share is not the same as value creation. The numbers are the tool's own calculation, checked by hand, against closed-form limits and against an independent numpy / scipy model (test_merger_accretion_dilution.php). A calculator for education and analysis, not investment advice.