1 Tax shield

One of the main benefits of using leverage in an acquisition is that it creates a tax shield, which is the reduction in taxable income due to the interest payments on the debt. The tax shield lowers the effective cost of capital and increases the cash flow available to the acquirer and the target. The tax shield also increases the net present value (NPV) of the acquisition, which is the difference between the value of the combined entity and the price paid for the target.

2 EPS accretion

Another benefit of using leverage in an acquisition is that it can increase the earnings per share (EPS) of the acquirer, which is a common measure of profitability and valuation. EPS is calculated by dividing the net income by the number of shares outstanding. By using leverage, the acquirer can reduce the number of shares issued to finance the acquisition, which lowers the dilution effect on the existing shareholders. Moreover, if the earnings yield of the target (the inverse of the price-to-earnings ratio) is higher than the interest rate on the debt, the leverage will boost the EPS of the acquirer.

3 Control and synergy

A third benefit of using leverage in an acquisition is that it can help the acquirer gain more control and synergy from the target. Control refers to the ability to influence the strategic and operational decisions of the target, such as cost-cutting, asset disposal, or product development. Synergy refers to the potential value creation from combining the resources and capabilities of the acquirer and the target, such as revenue enhancement, cost reduction, or risk diversification. By using leverage, the acquirer can reduce the dependence on the target's shareholders and managers, who may have different interests or goals. Leverage can also facilitate the integration process and the realization of synergy benefits.

4 Bargaining power and signaling

A fourth benefit of using leverage in an acquisition is that it can enhance the bargaining power and signaling effect of the acquirer. Bargaining power refers to the ability to negotiate better terms and conditions for the acquisition, such as price, timing, or structure. Signaling effect refers to the message that the acquirer sends to the market and the target about its confidence and commitment. By using leverage, the acquirer can demonstrate its willingness to pay a premium for the target, which can deter other potential bidders and persuade the target's shareholders and managers to accept the offer. Leverage can also signal that the acquirer has a positive outlook on the future performance and prospects of the target.

5 Flexibility and diversification

A fifth benefit of using leverage in an acquisition is that it can increase the flexibility and diversification of the acquirer. Flexibility refers to the ability to adapt to changing market conditions and opportunities, such as refinancing, restructuring, or divesting. Diversification refers to the reduction in risk exposure and volatility, by adding new sources of income and growth. By using leverage, the acquirer can preserve its cash and equity for other purposes, such as investing in organic growth, repurchasing shares, or paying dividends. Leverage can also help the acquirer diversify its business portfolio and customer base, by entering new markets, segments, or industries.

6 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?