What is Accretion Dilution Analysis?
Accretion and Dilution refer to a simple test that determines the impact of an acquisition or merger on the buying firm’s Earnings per Share (EPS). Accretion Dilution analysis helps the acquirer (buyer) weight the consequences of the merger, incorporating all factors and complexities.
Image from CFI’s M&A financial modeling course.
An accretive acquisition or merger is one where the pro forma (post-deal) Earnings per Share is greater than the acquirer’s (buyers) EPS before the deal is made.
Pro Forma (Post-Deal) EPS > Acquirer’s EPS
A dilutive acquisition or merger is one where the pro forma (post-deal) EPS is less than the EPS of the acquiring business when it stands alone/ before the deal is made.
Pro Forma (Post-Deal) EPS < Acquirer’s EPS
This scenario is pretty self-explanatory. Upon a merger or acquisition, the acquiring (buying) company would essentially “breakeven.” In other words, there would be no impact on the acquirer’s EPS and the company’s EPS would be the same before and after the deal is made.
Pro Forma (Post-Deal) EPS = No Impact on Acquirer’s EPS
The impact (accretion/dilution) of a merger or acquisition is generally based upon consensus earnings per share. Most public companies’ stock prices reflect EPS and should be used as a base for calculations. One really great tool for estimations of a company earnings is Thomson Reuters I/B/E/S.
Thomson Reuters I/B/E/S (previously First Call Corporation) leads the way in broker-sourced research, earnings estimates, and a great deal of other important financial information. The Thomson Reuters I/B/E/S Earnings Estimates offer consistent global financial data that contains info on more than 21,000 companies in over 480 established and emerging markets around the world. Thomson Reuter offers analysts from major international research firms to ensure broad coverage on top of local expertise
Thomas Reuters I/B/E/S includes the following:
- Summary Estimates & Actuals
- Detailed Estimates & Actuals
- Guidance Data
- Price Target Summary & Detail Estimates
- Surprise Data
- Recommendations Summary & Actuals
- Restated Actuals
- QFS Delivery Mechanism
Level of Accretion Dilution as a Critical Issue
As Accretion and Dilution Analysis is a simple test used to determine whether the proposed merger or acquisition will increase or decrease the post-transaction earnings per share (EPS), it is vital in determining whether a company should make the leap. The test determines if the transaction is affordable for the acquirer and what synergy they may be receiving.
It will also help determine the rationale behind combining the two companies. If the dilution is too great in value, the company probably will not go ahead with the transaction as it would be detrimental vs. beneficial. If it turns out that the accretion is high, it will have quite the opposite effect.