M&A · WORKED EXAMPLE
Accretion and dilution: work a stock deal before using shortcuts
Compare earnings gained with the shares issued, then explain what the result leaves out.
The original scenario
A buyer has $120 million of net income and 40 million shares. It purchases a target earning $24 million for $300 million, entirely in stock issued at $30 per share. Ignore transaction costs, purchase accounting, synergies and tax changes.
Calculate standalone EPS
Buyer EPS is $120 million ÷ 40 million = $3.00. The buyer issues $300 million ÷ $30 = 10 million new shares.
Calculate pro forma EPS
Combined net income is $144 million and combined shares are 50 million. Pro forma EPS is $2.88. Accretion / dilution is $2.88 ÷ $3.00 − 1 = −4.0%: the deal is dilutive under these assumptions.
Explain the shortcut
The buyer trades at 10× earnings ($30 ÷ $3). The target purchase multiple is 12.5× ($300 million ÷ $24 million). In this simplified stock transaction, buying a higher P/E earnings stream with lower P/E stock dilutes EPS. The shortcut depends on consistent earnings definitions and the omitted adjustments.
Probe the break-even point
To keep EPS at $3.00 on 50 million shares, combined net income must be $150 million. The gap is $6 million of annual after-tax earnings. That is an arithmetic hurdle, not a forecast of achievable synergies.
Do not confuse EPS with value
An accretive deal can destroy value if the buyer overpays or integration fails. Discuss cash flows, price, risk and execution as well as EPS. Interest expense, fees and amortization can change a real deal’s result.
Written by Accretive Thinking. Fictional companies and illustrative assumptions. Educational material, not investment advice. Expert editorial review pending.