Accretive/dilutive technical interview question
Hi everyone, I was checking out the WSO mock interview #1, the guy asks "assuming all else being equal, which transaction is most likely to be most accretive, one that uses all cash (doesnt matter if its debt) or all equity?" does anyone know how to approach this question? It seems easy enough but for some reason, I'm very lost.
Here's the link in case you want to see for yourself: https://www.youtube(DOT)com/watch?v=g95PJBrtMic
I think it would generally be the all-cash deal, because you're not issuing shares that will dilute your EPS. It could be dilutive, though if the incremental earnings increase is less than your interest and amortization expenses.
Yeah, I was thinking the same thing but since assuming all things equal (equal EPS and P/E ratio), wouldn't that ensure that the deal does not become dilutive?
do you mean P/E ratio of company A and B are equal or the P/E values are respectively equal regardless of if the deal is financed through cash or stock?
Assuming equal P/E ratios for both companies, issuing shares would be neutral. Paying with cash would be dilutive because the acquiring company loses the little interest generated by the cash.
This is wrong. If the target had post transaction NI equal to zero and cash was paid then it’d be neutral, anything greater than zero and it’s automatically accretive (assuming foregone cash interest, incremental borrowing interest, etc is included in the calculation of post transaction NI),
Yes, you are definitely right. I misunderstood the question. Thanks!
Except you gain all the earnings of target as well which generally is greater than the lost cash interest and any incremental amortization (which is non-cash so wouldn't affect cash EPS).
Yes, you are definitely right. I misunderstood the question. Thanks!
I'm thinking all cash is accretive since you dont need to issue shares to dilute, and the foregone interest on cash is pretty low
If that's the entire question, it's strange. It depends entirely on the cost of the cash (in interest expense for borrowed cash, or lost interest income for existing cash) vs. the yield on the acquiror's stock, which is expressed as PE. If the acquirer's stock trades at 300x forward earnings, equity is probably going to be the more accretive form of consideration. If the acquirer's stock trades at 10x earnings but the company can borrow at 0.5% interest, cash/debt is going to be more accretive.
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