How can CVS which has about 3 billion in cash on hand buy Aetna for 69 billion?
The deal is a mixture of cash and shares. Existing CVS shareholders get some cash, plus some shares in Aetna. It is likely that they would borrow in the bond market to raise the cash.

Yes, existing Aetna shareholders end up diluted. Ownership percentages in the combined firm will reflect the terms of the share conversion. The cash payment is there to reduce the dilution of Aetna shareholders, as it means that CVS shareholders get less Aetna shares.

You would only be able to take over a large firm as a small firm if the large firm’s shareholders want shares in a company that is managed by yourself. Unless you have a stellar reputation as a manager, why would they want that?