Scribd
Upload
30 views

EBIT

This document discusses the relationship between EBIT (Earnings Before Interest and Taxes) and EPS (Earnings Per Share) under different financing options, and how to calculate the break-even EBIT level. The break-even EBIT level is the point where EPS is the same under both options. An example company, XYZ Ltd, is considering equity financing by issuing new shares, or bond financing with interest expenses of Rs. 1,400,000. The break-even EBIT for XYZ is calculated to be Rs. 2,800,000. If current EBIT is above this, bonds are preferable, and if below, equity is better.

Uploaded by

Nishabh Jauhari
Copyright
© Attribution Non-Commercial (BY-NC)
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
30 views

EBIT

This document discusses the relationship between EBIT (Earnings Before Interest and Taxes) and EPS (Earnings Per Share) under different financing options, and how to calculate the break-even EBIT level. The break-even EBIT level is the point where EPS is the same under both options. An example company, XYZ Ltd, is considering equity financing by issuing new shares, or bond financing with interest expenses of Rs. 1,400,000. The break-even EBIT for XYZ is calculated to be Rs. 2,800,000. If current EBIT is above this, bonds are preferable, and if below, equity is better.

Uploaded by

Nishabh Jauhari
Copyright
© Attribution Non-Commercial (BY-NC)
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
You are on page 1/ 2

EBIT EPS relationship While deciding on the appropriate capital structure for an organisation, the first thing is to understand

d the affect on Earning Per Share (EPS) due to the changes in Earning Before Interest and Taxes (EBIT) under different financing alternatives. The relationship between EBIT and EPS is as follows: (EBIT I) (1-t) EPS = --------------------n Where, EBIT = earnings before interest and taxes EPS = earnings per share I t n = interest = tax rate = number of equity shares

Break-even EBIT level Break-even EBIT level is the indifferent point where EPS under alternative financing plan is the same. Mathematically, the break-even EBIT level is: (EBIT* - I1) (1 t) --------------------------n1 Where, EBIT* = indifference point between the two alternative financing plans I1, I2 t = interest expenses = income-tax rate (EBIT* - I2) (1- t) = n2 -------------------------

n1, n2 = number of equity shares outstanding after adopting financing plans 1and 2 Illustration Consider a company XYZ ltd., which is considering the following two financing options: Financing a new project by issuing equity in the market to raise the number of outstanding equity shares from 1,000,000 to 2,000,000

Financing, a new project by issuing bonds which will carry interest expenses of Rs.1,400,000 and keeping the number of outstanding equity shares the same

Applying the above equation for XYZ ltd. (considering the tax rate is 50%), we get, (EBIT* - 0) (0.5) ----------------------2,000,000 EBIT* = Rs.2,800,000 Therefore, the break-even EBIT level, is Rs.2,800,000 for XYZ ltd. If the present EBIT level of XYZ ltd is more than the break-even EBIT, then it would be better off to finance the new project by issuing bond. The equity finance option will be favourable if the present level of EBIT is below the break-even EBIT level. = (EBIT* - 1,400,000) (0.5) -----------------------------------1,400,000

You might also like