Read the following text and answer the following question on the basis of the same (Q.2) Mr. Yash Mittal is running a successful business. Mr. Mittal is the owner of Y. K. Cement Ltd. Mr. Mittal decided to expand his business by acquiring a Steel Factory. This required an investment of Rs. 60 crores. To seek advice in this matter, he called his financial advisor Mr. Amit Pathak who advised him about the judicious mix of equity (40%) and Debt (60%). He suggested that employing more of cheaper debt may enhance the EPS. Mr. Pathak also suggested him to take loan from a financial institution as the cost of raising funds from financial institutions is low. Though this will increase the financial risk but will also raise the return to equity shareholders. He also apprised him that issue of debt will not dilute the control of equity shareholders. At the same time, the interest on loan is a tax deductible expense for computation of tax liability. After due deliberations with Mr. Pathak, Mr. Mittal decided to raise funds from a financial institution. Employ more of cheaper debt may enhance the EPS. Such practice is called as?

Financial Leverage Capital Structure Trading on Equity Capital Budgeting

Trading on Equity

With higher use of debt, the difference between RoI and cost of debt increases the EPS. This is a situation of favourable financial leverage. In such cases, companies often employ more of cheaper debt to enhance the EPS. Such practice is called Trading on Equity. Thus,Trading on Equity refers to the increase in profit earned by the equity shareholders due to the presence of fixed financial charges like interest.