Accretive refers to a financial transaction or activity that enhances an entity’s earnings per share (EPS) or overall value over time.
These actions increase the profitability of a company, often benefiting its shareholders.
For example, in the context of mergers and acquisitions (M&A), a deal is accretive if the acquiring company’s EPS rises post-transaction.
This happens when the acquired company’s earnings contribute more to the buyer’s bottom line than the cost of financing the acquisition.
Key Applications
Acquisitions
Acquisitions are among the most common scenarios where accretive dynamics are evaluated.
When one company purchases another, the transaction is deemed accretive if it results in increased EPS for the acquiring company.
Example:
Imagine Company A acquires Company B for $50 million. Company B generates $10 million annually in net income.
If the acquisition cost is lower than the value of the income it generates relative to Company A’s cost of capital, the acquisition is accretive because it adds more to earnings than it subtracts through financing costs.
Share Buybacks
A share buyback program can also be accretive if the reduction in outstanding shares increases the EPS for remaining shareholders.
By repurchasing its own shares, a company can spread its earnings across fewer shares, effectively boosting the value of each remaining share.
Example:
If a company has $100 million in net income and 10 million shares, its EPS is $10. If it buys back 1 million shares, the new EPS becomes $11.11, indicating the buyback was accretive.
Importance
Accretive actions are crucial indicators of value creation.
They demonstrate that a company is making financial decisions aligned with shareholder interests and sustainable growth.
Conversely, transactions that reduce EPS are considered dilutive, signaling a potential decrease in shareholder value.
How to Assess?
Determining if an action is accretive involves analyzing several factors:
Cost of the Transaction: The price paid for an acquisition or the expense of a share buyback must be weighed against its return on investment.
Financing Method: The source of funding—whether through debt, equity, or internal cash flow—impacts the accretive or dilutive nature of the action.
Projected Earnings: The future earnings contribution of the transaction must justify its initial cost.
Formula:
For acquisitions, a simplified formula to determine if a deal is accretive:
Accretive vs. Dilutive: A Comparison
| Aspect | Accretive | Dilutive |
|---|---|---|
| Impact on EPS | Increases EPS | Decreases EPS |
| Shareholder Value | Enhances value | Reduces value |
| Example | Profitable acquisition, share buybacks | Overpriced acquisition, high financing costs |
Final Thoughts
Accretive actions signify growth, improved shareholder value, and efficient use of resources.
Whether evaluating an acquisition, a share buyback, or any other financial strategy, focusing on accretive outcomes ensures financial health and sustainable progress.
Disclaimer: The information provided on this website is intended for educational and entertainment purposes only. It should not be considered as professional advice or a substitute for consultation with a qualified professional. Always seek the guidance of a licensed expert in the relevant field for advice tailored to your specific circumstances. The creators of this site assume no responsibility for how the information is used or interpreted.
Quick Links: You can visit financial literacy terms beginning with letters A, B, C, D, E, F, G, H, I, J, K, L, M, N, O, P, Q, R, S, T, U, V, W, X, Y, Z, NUMERICAL, and Glossary