Modeling04
Merger math
Read firstWhat a business is worth. Valuation without accounting is memorization.
Accretion and answers one narrow question: does this acquisition raise or lower the acquirer's . It is the first thing a board asks and it is not a measure of whether the deal creates value. Both of those things are worth knowing.
The mechanism
Combine two , adjust for how the deal was paid for, and divide by the new share count.
- Add the two together.
- Add after-tax synergies.
- Subtract the after-tax cost of financing: interest on new debt, and interest given up on cash that was spent.
- Divide by the acquirer's shares plus any new shares issued.
- Compare to the acquirer's standalone earnings per share.
The rule of thumb
For an all-stock deal, compare the acquirer's P/E to the P/E it is paying. Higher means accretive. That is the whole rule, and it works because the exchange ratio is set by the two multiples.
| Pro forma EPS | Accretion | |
|---|---|---|
| All stock, 30% premium | $2.124 | 6.2% |
| All cash, 30% premium | $2.283 | 14.1% |
| All stock, 250% premium | $1.778 | -11.1% |
Cash beats stock here because forgone interest at 3% costs less than issuing at a 20x multiple, which is an implied cost of 5%. That comparison is the real content of the consideration decision, and it flips when interest rates are high.
Where the rule fails
- Any deal that is not all stock. The rule compares two P/E multiples and says nothing about the cost of cash or debt. A cash-funded deal has no exchange ratio for the rule to work on.
- . Enough cost savings make almost any price accretive. At a 250% premium the deal above is -11.1% dilutive, and $200M of pre-tax savings brings it back to exactly flat, which the model confirms at 0.0000%.
- Accretion is not value. A company can buy anything cheap enough on a multiple basis and add EPS while destroying value, because EPS says nothing about the quality or durability of the earnings acquired.
Run the numbers
Test yourself
01Company A trades at 20x and buys Company B at 13x in an all-stock deal. Accretive or dilutive?
Accretive. A is issuing shares valued at 20x earnings to buy earnings priced at 13x, so it acquires more earnings than it gives away. The follow-up is whether that makes it a good deal, and the answer is no, not on its own. Accretion is an arithmetic consequence of the multiples. Value depends on whether the business is worth what was paid, which the calculation says nothing about.
02Same deal, all cash instead. What changes?
The share count does not move, so no dilution from issuance. Instead the acquirer gives up the yield it was earning on the cash, after tax. Cash deals are usually more accretive than stock deals at current interest rates, because forgone interest is cheaper than issuing equity. That is a statement about financing cost, not about whether the acquisition is sensible.
03A deal is 4% dilutive. Would you do it?
Possibly. Ask what the synergies are, when they arrive, and whether the strategic logic holds. A deal that is dilutive in year one and accretive by year three, with cost savings someone can name and schedule, is routine. A deal that is dilutive and relies on revenue synergies nobody can specify is a different conversation. The breakeven synergy figure is the useful question: how much would have to be true for this to work.
Every figure in this lesson that names a company comes from Target Corporation's Form 10-K for Fiscal 2025, the year ended 2026-01-31, filed 2026-03-11. Educational material, not investment advice.