EBIT-EPS analysis is a very strong and important tool in the hands of the finance manager. This is an alternative technique to measure the impact of financial leverage on the returns available to equity shareholders. Under EBIT-EPS analysis, an attempt is made to analyse the impact of change in the capital structure on earnings available to equity shareholders. Thus, EBIT-EPS analysis shows the relationship between EBIT and EPS at various financing pattern i.e. debt –equity ratio. The financing mix, which yields the maximum EPS to equity shareholders under assumed EBIT level, is regarded as the best mix or the optimum capital structure.
Earning Per Share (EPS)
Earning per share, also called net income per share, is a market prospect ratio that measures the amount of net income earned per share of stock outstanding. In other words, this is the amount of money each share of stock would receive if all of the profits were distributed to the outstanding shares at the end of the year.
Earnings per share is also a calculation that shows how profitable a company is on a shareholder basis. So a larger company’s profits per share can be compared to smaller company’s profits per share. Obviously, this calculation is heavily influenced on how many shares are outstanding. Thus, a larger company will have to split its earning amongst many more shares of stock compared to a smaller company.
I = Interest on debt capital,
t= Corporate tax rate,
N= No. of shares.
If preference capital is there,then the above formula will undergo following change:
Where, P=Dividend on preference shares.
EBIT(Earnings Before Interest and Taxes)
EBIT is a measure of a entity’s profitability that excludes interest and income tax expenses. Interest and taxes are excluded because they include the effect of factors other than the profitability of operations. EBIT (also called operating profit) shows an entity’s earning power from ongoing.