What is an exchange ratio and when would companies use it in an M&A deal?

An exchange ratio is an alternate way of structuring a 100% stock M&A deal, or any M&A deal with a portion of stock involved.

Let’s say you were going to buy a company for $100 million in an all-stock deal. Normally you would determine how much stock to issue by dividing the $100 million by the buyer’s stock price, and using that to get the new share count.

With an exchange ratio, by contrast, you would tie the number of new shares to the buyer’s own shares – so the seller might receive 1.5 shares of the buyer’s shares for each of its shares, rather than shares worth a specific dollar amount.

Buyers might prefer to do this if they believe their stock price is going to decline posttransaction – sellers, on the other hand, would prefer a fixed dollar amount in stock unless they believe the buyer’s share price will rise after the transaction.