the present earnings of a company before interest and tax is 10 lakh. the company wants to increase his total capital investment by 50% through an issue of 10% debentures. at present the total capital of the company is 50 lakhs out of which 40 lakhs have been raised through equity and rest as issue of 10% debentures. the tax levied is 40%. the face value of an equity share is rupees 10 and that of a debenture is hundred.
calculate the EPS of the company on issue of debentures assuming that the owner of the company remains unchanged. do you think the company has taken the right decision by choosing debt to raise furthur capital

Profit before interest & Tax - 10,00,000
Present Total Capital - 50,00,000
Number of Equity Shares = Equity Share Capital / Face value of equity Share
 = 40,00,000 / 10 =40,000 Number of Equity Shares

​​​​​​Required Increase in Capital = 50% of Existing Capital
= 50 /100 × 50,00,000 = 25,00,000
Total New Capital = 50,00,000 + 25,00,000 = 75,00,000
As increase in capital is to be done through issue of new 10% Debentures so total value of Debentures ( old + new)
= 10,00,000 + 25,00,000 = 35,00,000
Number of Debentures = 35,00,000 / 100 = 3,50,000

Interest on Debentures = 35,00,000 × 10 / 100 = 3,50,000

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Profit after Interest = Profit before Interest & Tax - Interest on Debentures
= 10,00,000 - 3,50,000 = 7,50,000

Tax @ 40% = 7,50,000 × 40/100 = 3,00,000

Profit after Tax = 7,50,000 - 3,00,000 = 4,00,000
EPS = Profit after Tax & Interest / Number of Shares
= 4,00,000 / 40,000 = 10

EPS of the company is 10
Yes the company has chosen right decision to stick with the decision of issuing further capital by issue of debtentures as further issue of equity shares have caused a decline in the Earning per share of the company.

Regards


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