Capital Structure and Financing Decisions Quiz

Podcast

Play an AI-generated podcast conversation about this lesson

Questions and Answers

What is the formula to calculate Earnings Per Share (EPS)?

EPS = (Earnings After Tax - Preference Dividends) / No. of Equity Shares

In the given scenario, how much is the total equity share capital of GD Ltd?

Rs. 5,00,000

What is the tax rate used in the calculation of EPS?

50%

Which financial scheme resulted in the highest EPS?

Plan C Signup and view all the answers

What is the effect of including preference shares on the EPS in Plan D?

Reduces EPS Signup and view all the answers

What is the significance of EBIT in the calculation of EPS?

Higher EBIT leads to higher EPS Signup and view all the answers

How is the Price Earnings ratio calculated?

Price Earnings ratio * EPS Signup and view all the answers

What is the formula for calculating EPS?

EPS = (Earnings After Tax - Preference Dividend) / Number of Equity Shares Signup and view all the answers

What are the three financing alternatives available for the company's expansion program?

a) Issue of 10,000 equity shares at a premium of Rs. 25 per share b) Issue of 10,000 10% preference shares c) Issue of 10,000, 8% Debentures Signup and view all the answers

How does the company's capital structure break down based on the given information?

Equity shares: Rs. 10,00,000, Retained Earnings: Rs. 5,00,000, 9% Preference Shares: Rs. 6,00,000, 7% Debentures: Rs. 4,00,000 Signup and view all the answers

What is the impact of tax rate on the company's earnings?

Tax rate is 50%, reducing the earnings after tax available to shareholders. Signup and view all the answers

How does the company's earnings before interest and tax (EBIT) affect the financing decision?

Higher EBIT provides more flexibility in choosing financing alternatives. Signup and view all the answers

Calculate the EPS when the entire capital is raised through equity shares of Rs. 100 each.

9.00 Signup and view all the answers

Calculate the EPS when 50% is raised from equity shares and 50% is raised through 10% debentures.

12.00 Signup and view all the answers

Calculate the EPS when 50% is raised through 10% debentures, 20% through 9% preference shares, and the balance through equity shares.

14.00 Signup and view all the answers

Why is Case-C preferred based on EPS?

Case-C is preferred based on EPS because it has the highest EPS value of 14.00. Signup and view all the answers

If 12.A Ltd. company has a share capital of 1,00,000 divided into shares of Rs.10 each, and requires an additional investment of Rs. 50,000, how might it finance this expansion?

12.A Ltd. company might finance the expansion through a mix of equity shares, debentures, or preference shares. Signup and view all the answers

How does the tax rate of 40% impact the Earnings after tax (EAT) and subsequently the EPS?

The tax rate of 40% reduces the Earnings after tax (EAT), which in turn affects the Earnings Available to Equity shareholders (EAESH) and the EPS. Signup and view all the answers

Study Notes

Formula: EPS = (Net Income - Preferred Dividends) / Average Outstanding Shares
It is a key metric for evaluating a company's profitability on a per-share basis.

Total equity share capital is determined by multiplying the number of shares by their nominal value, providing insight into the company's financial structure.

Tax Rate in EPS Calculation

A tax rate of 40% is commonly used in EPS calculations, impacting the net income available for shareholders.

Financial Scheme and EPS

Various financial schemes can result in differing EPS values, with some combinations of equity and debt leading to higher EPS due to lower interest costs or more efficient capital use.

Preference Shares Effect on EPS in Plan D

Including preference shares generally dilutes the EPS as fixed dividends are paid, reducing the income available for ordinary shareholders.

Significance of EBIT

Earnings Before Interest and Taxes (EBIT) is critical as it reflects a company's operational performance without the effects of capital structure and tax strategy.

Price Earnings (P/E) Ratio Calculation

P/E Ratio = Market Price per Share / Earnings Per Share (EPS)
This ratio measures investor expectations and relative valuation.

Financing Alternatives for Expansion

Common alternatives include issuing equity shares, debentures, or preference shares, each influencing capital structure and EPS differently.

Company’s Capital Structure Breakdown

The capital structure may include a mix of equity, preference shares, and debt instruments, which helps in understanding the risk and return dynamics.

Impact of Tax Rate on Earnings

A higher tax rate reduces Earnings After Tax (EAT), which in turn decreases the EPS, affecting investor perception and valuation.

Influence of EBIT on Financing Decisions

Higher EBIT implies greater capacity to service debt, influencing decisions on whether to raise funds through equity or debt.

EPS Calculation Scenarios

EPS using fully equity funding: Calculation based on total profits available to equity shareowners, reflecting potential maximum EPS.
EPS with mixed funding (50% equity, 50% debentures): Interest expenses reduce taxable income, affecting overall EPS.
EPS with debentures, preference shares, and equity funding: Further dilution of earnings through fixed costs associated with preference dividends and interest on debentures.

Preference for Case-C Based on EPS

A particular financing option, Case-C, may yield the highest EPS, indicating a more favorable outcome for shareholders.

A Ltd’s Financing Expansion Scenario

With a share capital of Rs. 1,00,000 divided into Rs. 10 shares and requiring an additional Rs. 50,000, options may include issuing more shares, taking loans, or other financing routes.

Effect of 40% Tax Rate on Earnings After Tax (EAT)

The application of a 40% tax rate will significantly decrease EAT, affecting the net income available for distribution as dividends, directly impacting EPS calculations.

Studying That Suits You

Use AI to generate personalized quizzes and flashcards to suit your learning preferences.

Description

Test your knowledge on capital structure and financing decisions with this quiz. Explore different scenarios such as issuing equity shares or preference shares to raise funds for business expansion. Calculate the impact of income tax rates and return on capital on the company's financial decisions.