Accretive Returns: Understanding Financial Benefit

In the financial context, accretive refers to an incremental benefit that occurs after a financial transaction. Depending on how it is used financially, it can refer to capital gainsCapital GainA capital gain is an increase in the value of an asset or investment resulting from the price appreciation of the asset or investment. In other words, the gain occurs when the current or sale price of an asset or investment exceeds its purchase price., a corporate finance transaction, or an accounting expense. Knowing the difference is pivotal to being an informed finance professional to ensure the data you are presenting or being presented with is being described properly.

We will discuss all three below with relevant examples. Understanding when something is said to be accretive can help you in negotiations or discussing different types of quantitative analysisQuantitative AnalysisQuantitative analysis is the process of collecting and evaluating measurable and verifiable data to understand the behavior and performance of a business..

Accretion in Corporate Finance

When using the term accretion in the context of a corporate finance deal, it is done so in the discussion of the actualized value created after the completion of the transaction. If you owned a company that took over another company, the increase in your earnings post-transaction would be the accretion as a result of the deal.

The opposite of accretion in this circumstance can be said to be when a deal is “dilutive.” A deal is dilutive if the earnings per shareEarnings Per Share (EPS)Earnings per share (EPS) is a key metric used to determine the common shareholder's portion of the company’s profit. EPS measures each common share's profit decrease after the transaction. In the graph below, the region between $5 per share and $7 per share is the accretion of the deal being displayed:

Accretive vs. Amortization: The Bond Deal

Accretion, in relation to bonds, is the exact opposite of amortizationAmortizationAmortization refers to the process of paying off a debt through scheduled, pre-determined installments that include principal and interest. If you are an investor selling and buying bonds or a trader working for a bank or hedge fund, understanding what accretion is in discussing the products can help you understand what side of the deal you are on.

If you are buying a bond from someone lower than its par valuePar ValuePar Value is the nominal or face value of a bond, or stock, or coupon as indicated on a bond or stock certificate. It is a static value, then the difference between what you paid and what the bond is worth (in other words, the capital gains that occur when the bond matures at par) is the accretion within the deal. It can occur if you were an institutional investor and trading on behalf of a firm.

Accretion in Accounting

Accretion occurs when the present value of a bond or other type of instrument is updated on the company’s balance sheet. For example, if you book a present value liability of $10,000 on the balance sheet, such as a loan with a future value of $50,000, you must increase the liability by the determined amount from the $10,000 to the $50,000 (usually a percentage value).

Understanding how the function works in accounting will better help you analyze a company’s financial statements to make more informed decisions as to the long- and short-term health of the asset.

Contextualization: Understanding the Term

Knowing how to properly contextualize the term accretive can help you determine exactly what is being discussed and the exact benefit being referred to. It is crucial to understand the different contexts under which it can be written in order to make more informed decisions and understand exactly what is being communicated and to whom.

When a term in finance undergoes slightly different nuanced meanings when being presented, being more informed can help you understand what is being said or what exactly you are saying back to someone.

Additional Resources

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