Hey guys, juste need a quick answer to this:
Company A is buying company B in an all stock transaction. Compant A is offereing 0.5 of its shares for 1 share of company B. They both have the same P/E ratio. Is this accetive or dilutive?
Thanks!
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What is the logic behind this? The way I see it is say the P/E of each is 10. The fact that A is offering 0.5 shares for 1 of B means they believe one of their shares is worth 2 of Bs. So doesn't this mean they value B at (0.5P)/E = 0.5(10)/1 = 5 = Accretive?
I probably got the logic wrong but I just want to understand why it is dilutive. Thanks
I believe this is a trick question - the correct answer is neither. Generally, a merger is accretive when a company with a higher P/E acquires a company with a lower P/E and dilutive when the opposite is true. Given that the P/E ratios are the same, the merger is neither accretive nor dilutive.
The exchange ratio is solely a function of the price per share of each company's stock. Think of it this way, if Company A has $2 eps and trades at $20/share and Company B has $1 eps and trades at $10/share, they both have P/E ratios of 10. Even though their valuations are the same, Company A would not trade $20 of its stock for $10 of its target's stock (1:1 exchange ratio). At these prices, Company A would have to offer 0.5 shares for 1 share of Company B in an all stock transaction (0.5:1 exchange ratio).
Regardless, the acquiror is paying $10 for $1 of earnings regardless of if his stock is $20 and his target's stock is $10, or if his stock is $4 and his target's stock is $2. Accretion is dependent on the relationship of the P/E multiples, not the nominal share prices.
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