--- title: "Best financing option; EBIT Rs 350,000" subject: "Project Engineering" chapter: 6 key: "semester_7/project_engineering:best-option-two-options-ebit-350000" source: https://www.bctengineer.com/q/semester_7/project_engineering/best-option-two-options-ebit-350000 site: BCT Engineering --- # Best financing option; EBIT Rs 350,000 Project Engineering · Chapter 6: Introduction to Project Financing - Asked in: 2080 Baisakh, 5 marks - Answer checked by Claude Opus 5.5 (high effort) on 2026-10-14 - Page: https://www.bctengineer.com/q/semester_7/project_engineering/best-option-two-options-ebit-350000 - Whole chapter: https://www.bctengineer.com/md/semester_7/project_engineering/chapter-6 ## Question A project has a capital structure consisting of 4000 ordinary shares @ Rs 100 per share and loan capital of \$600,000 @ 10% interest per year. It wants to raise additional capital of \$1 million and has two options: (i) 4000 ordinary shares @ Rs 100 per share and loan capital of 6000,000 @ 10% interest per year; (ii) 2000 ordinary shares @ Rs 100 per share, Rs 300,000 preference share @ 12% dividend per year; and loan capital of 500,000 @ 12% interest per year. Select the best option if EBIT = Rs 350,000 and tax rate = 30%. ## Short answer Compute interest, EAT, and earnings for equity for each option. Option (i) EPS = Rs 20.13, option (ii) EPS = Rs 20.83. Option (ii) gives the higher EPS and is selected. ## Answer #### Data and assumptions - Existing: 4,000 shares at Rs 100 (Rs 4,00,000) and loan Rs 6,00,000 at 10% (interest Rs 60,000). - Additional capital is Rs 10,00,000 in both options (the printed "\$" and "6000,000" are read as Rs and Rs 6,00,000). Option (i): 4,000 shares (Rs 4,00,000) + loan Rs 6,00,000 at 10%. Option (ii): 2,000 shares (Rs 2,00,000) + preference shares Rs 3,00,000 at 12% + loan Rs 5,00,000 at 12%. - EBIT = Rs 3,50,000; tax = 30%. The option with the highest EPS is selected. | Option | Shares | Interest | EBT | EAT | Pref. dividend | Earnings for equity | EPS (Rs) | |---|---|---|---|---|---|---|---| | (i) | 8,000 | 120,000 | 230,000 | 161,000 | 0 | 161,000 | 20.13 | | (ii) | 6,000 | 120,000 | 230,000 | 161,000 | 36,000 | 125,000 | 20.83 | Working for option (i): shares = 4,000 + 4,000 = 8,000; interest = 60,000 + 6,00,000 x 10% = 1,20,000; EAT = 2,30,000 x 0.70 = 1,61,000; EPS = 1,61,000/8,000 = 20.125. Working for option (ii): shares = 4,000 + 2,000 = 6,000; interest = 60,000 + 5,00,000 x 12% = 1,20,000; EBT = 2,30,000; EAT = 2,30,000 x 0.70 = 1,61,000; preference dividend = 3,00,000 x 12% = 36,000; earnings for equity = 1,25,000; EPS = 1,25,000/6,000 = 20.83. **Answer: EPS (i) = Rs 20.13, EPS (ii) = Rs 20.83. Option (ii) gives the higher EPS and is selected.** The difference is small; if the firm wants to avoid a fixed preference dividend or more financial risk, the choice can be reviewed, but on the EPS basis option (ii) is best. ## Check yourself The answer's key points as multiple-choice questions, with the correct option and why. 1. For option (ii), what are the total shares and total interest? A. 6,000 shares; Rs 1,20,000 B. 2,000 shares; Rs 60,000 C. 8,000 shares; Rs 1,20,000 D. 6,000 shares; Rs 60,000 Answer: A. Shares = 4,000 existing + 2,000 new = 6,000; interest = 60,000 existing + 5,00,000 x 12% = 1,20,000. (Key point: Total shares and interest) 2. Why must the existing capital be included in each option? A. Because the additional capital is added to the present structure, so shares and interest are totals B. Because existing capital is tax free C. Only to compute book value D. It need not be included Answer: A. The new capital is raised on top of the existing structure, so EPS uses total shares and total interest. (Key point: Combine with existing capital) 3. What is the preference dividend in option (ii) and how is it used? A. Rs 36,000, deducted from EAT B. Rs 60,000, deducted from EBIT C. Rs 36,000, deducted before tax D. Rs 30,000, added to EAT Answer: A. 3,00,000 x 12% = 36,000, paid out of EAT of 1,61,000, leaving 1,25,000. (Key point: Preference dividend) 4. What are the EPS values? A. (i) Rs 20.83, (ii) Rs 20.12 B. (i) Rs 20.12, (ii) Rs 20.83 C. (i) Rs 40.25, (ii) Rs 26.83 D. Both Rs 20.12 Answer: B. (i) 1,61,000/8,000 = 20.12; (ii) 1,25,000/6,000 = 20.83. (Key point: EPS comparison) 5. Which option is selected and on what basis? A. Option (i), as it has more shares B. Option (ii), as it has the higher EPS C. Option (i), as it has no preference shares D. Neither, as EAT differs Answer: B. Selection is by highest EPS, so option (ii) at Rs 20.83 is chosen, though the difference is small. (Key point: Selection criterion) ## Related in Project Engineering - [Capital structure; best option by EPS, three options](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Abest-option-eps-three-options-c70) — Project Engineering, chapter 6 - [Dividend per ordinary share, 500 shares, tax 20%](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Adividend-per-share-500-shares-b81) — Project Engineering, chapter 6 - [EPS and book value; 5000 shares, EBIT 3,50,000](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aeps-bv-5000-shares-300000-pref) — Project Engineering, chapter 6, asked 2× - [EPS and book value; 500 shares, EBIT 40,000, tax 40%](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aeps-bv-500-shares-300-pref) — Project Engineering, chapter 6 - [EPS and book value; Rs 10,00,000, 3500 shares](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aeps-bv-capital-1000000-3500-shares) — Project Engineering, chapter 6 - [EPS; total capital Rs 15,00,000](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aeps-capital-1500000-pref-loan-a74) — Project Engineering, chapter 6 ## Related in other subjects - [Repeatability, two mutually exclusive options](https://www.bctengineer.com/question.md?key=semester_6%2Fengineering_economics%3Arepeatability-option-1-2) — Engineering Economics, chapter 4