1. Company A, with a P / E of 25x, acquires Company B for a purchase P / E multiple of 15x. Will the deal be accretive? - ANSWER You can't tell unless you know that it's a 100% Stock deal.
If it is a 100% Stock deal, then it will be accretive because the Buyer's P / E is higher than the Seller'...
1. Company A, with a P / E of 25x, acquires Company B for a purchase P / E multiple of 15x. Will the
deal be accretive? - ANSWER You can't tell unless you know that it's a 100% Stock deal.
If it is a 100% Stock deal, then it will be accretive because the Buyer's P / E is higher than the Seller's,
indicating that the Buyer's Cost of Acquisition (, or 4%) is less than the Seller's Yield (, or
6.7%).
2. Walk me through the full math for the deal now.
Assume that Company A has 10 shares outstanding at a share price of $25.00, and its Net Income is
$10.
It acquires Company B for a Purchase Equity Value of $150. Company B has a Net Income of $10 as
well. Assume the same tax rates for both companies. How accretive is this deal? - ANSWER Company
A's EPS is $ = $1.00.
To do the deal, Company A must issue 6 new shares since $150 / $25.00 = 6, so the Combined Share
Count is 10 + 6 = 16.
Since no Cash or Debt were used and the tax rates are the same, the Combined Net Income =
Company A Net Income + Company B Net Income = $10 + $10 = $20.
The Combined EPS, therefore, is $ = $1.25, so there's 25% accretion.
3. Company A now uses Debt with an Interest Rate of 10% to acquire Company B. Is the deal still
accretive? At what interest rate does it change from accretive to dilutive? - ANSWER The Weighted
, Cost of Acquisition would be 10% * (1 - 20%), or 8%, so the deal would not be accretive because that
Cost is greater than the Seller's Yield of 6.7%.
For the deal to turn accretive, the After-Tax Cost of Debt would have to be below 6.7%. Since 6.7% /
(1 - 20%) = 8.5%, the deal would turn accretive at an interest rate below 8.5%.
4. What are the Combined Equity Value and Enterprise Value in this deal?
Assume the original 100% Stock structure, and that Equity Value = Enterprise Value for both the
Buyer and Seller. - ANSWER Combined Equity Value = Buyer's Equity Value + Value of Stock Issued in
the Deal = $250 + $150 = $400.
Combined Enterprise Value = Buyer's Enterprise Value + Purchase Enterprise Value of Seller = $250 +
$150 = $400.
6. Without doing any math, what range would you expect for the Combined P / E multiple? -
ANSWER The Combined P / E multiple should be in between the Buyer's P / E multiple and the
Seller's Purchase P / E multiple, so between 25x and 15x here.
If Company A is much larger than Company B, the Combined P / E multiple will be closer to the 25x of
Company A. But if they're closer in size, the Combined P / E multiple will be in the middle of this
range.
You cannot average the P / E multiples of both companies because they may be different sizes; a
weighted average also won't work because the purchase method affects the combined multiple.
7. Now assume that Company A is twice as big financially, so its Equity Value is $500 and its Net
Income is $20. Will a 100% Stock deal be more or less accretive? - ANSWER The deal will be less
accretive. The intuition is that the company that is not making the deal dilutive - the Buyer - now has
a higher weighting in all the calculations.
Since Company A's P / E is the same, but Company A is significantly bigger, its lower Yield "drags
down" the Combined EPS for the entire company.
The Combined P / E multiple will still be between 15x and 25x, but it will be closer to 25x because
Company A is weighted more heavily.
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