What it means
In an all-cash deal the price is simply a dollar figure per share. In a share deal the target's owners are paid in the acquirer's own stock, so the agreement has to state precisely how many acquirer shares each target share is worth.
The starting point is the offer price per target share, which is the target's undisturbed market price plus a control premium, commonly somewhere between 20% and 40%. Divide that offer price by the acquirer's share price and you have the exchange ratio.
A fixed exchange ratio locks the number of shares, so the dollar value of the deal moves with the acquirer's share price between signing and completion. A floating ratio locks the value instead, adjusting the share count so target holders receive an agreed dollar amount, which shifts the price risk onto the acquirer's existing shareholders.
Many large deals sit between the two, using a fixed ratio with a collar. The ratio floats only if the acquirer's share price moves outside an agreed band, and one or both parties may have a walk-away right beyond that band, so negotiating the collar is often as contentious as negotiating the headline price.
The ratio also determines control of the combined business. Multiply it by the target's share count to get the new shares issued, which tells you what percentage of the enlarged company the target's owners will hold and whether the deal adds to or dilutes the acquirer's earnings per share.
In practice
Real-world examples.
Example
Two regional insurers agree a merger at a fixed exchange ratio of 0.65 shares. When the acquirer's share price falls 12% before completion, the value received by target shareholders falls with it, and the target's board faces awkward questions at the shareholder vote about why it did not negotiate a collar.
Example
A technology acquirer offers a floating ratio guaranteeing $42.00 of value per target share. Its own share price drifts down before closing, so it has to issue more shares than originally modelled, diluting its founders further than the board had expected.
Example
A mining group structures a merger with a fixed ratio of 1.15 shares inside a collar of plus or minus 10% on its own share price. When the price moves 6%, the ratio holds, and both boards are able to present the deal terms as stable to their shareholders.
Formula
Calculation
Exchange ratio = Offer price per target share / Acquirer share price.
The target's shares trade at $24.00 and the acquirer offers a 25% premium, so the offer price is $24.00 x 1.25 = $30.00 per target share. The acquirer's own shares trade at $75.00, giving an exchange ratio of $30.00 / $75.00 = 0.40 acquirer shares for each target share.
The target has 20,000,000 shares outstanding, so the acquirer issues 20,000,000 x 0.40 = 8,000,000 new shares. Those shares are worth 8,000,000 x $75.00 = $600,000,000, which matches the deal value of 20,000,000 x $30.00 = $600,000,000.
The acquirer already had 50,000,000 shares in issue, so the combined company has 50,000,000 + 8,000,000 = 58,000,000 shares. Former target shareholders end up owning 8,000,000 / 58,000,000 = 13.8% of the enlarged group.Case study
Seen in the real world.
Brightmoor Logistics is an illustrative, invented acquirer used here to show how an exchange ratio drives more than just price. Its shares traded at $75.00 with 50,000,000 in issue, and it agreed to buy Fairhaven Freight, an equally fictional target trading at $24.00 with 20,000,000 shares, at a 25% premium.
That produced an offer price of $30.00, an exchange ratio of 0.40, and 8,000,000 new shares issued, valuing the deal at $600,000,000. Fairhaven's shareholders would hold 8,000,000 / 58,000,000 = 13.8% of the combined group, comfortably below the 20% level that would have triggered a shareholder vote under Brightmoor's own listing rules.
The negotiation then turned to whether the ratio should be fixed or floating. Fairhaven's board wanted certainty of value, Brightmoor's wanted certainty of dilution, and they settled on a fixed 0.40 ratio with a collar allowing renegotiation if Brightmoor's price moved more than 15% either way. The illustrative lesson is that the exchange ratio is where price, risk allocation and control all get decided in a single number.
Watch out
Common mistakes.
- Quoting the exchange ratio as though it were the price, when the value received also depends entirely on where the acquirer's share price sits at completion.
- Using the target's current, already-rumoured share price rather than its undisturbed price when calculating the premium implied by the ratio.
- Ignoring the dilution the ratio causes to the acquirer's earnings per share, which is often the number that decides whether the acquirer's own shareholders approve.
Questions
People also ask.
What is a fixed versus a floating exchange ratio?
A fixed ratio sets the number of shares so the deal value moves with the market, while a floating ratio sets the value and lets the share count move instead.
Why do deals include a collar?
A collar caps how far the ratio or the value can drift before terms are adjusted or either side can walk away, which reduces the risk of a deal falling apart over market volatility.
Does the exchange ratio change the tax treatment for target shareholders?
Often yes, since an all-share exchange can qualify for rollover relief in many jurisdictions while a cash element usually crystallises a taxable gain, so the mix matters as much as the ratio.
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