## EBIT–EPS–MPS Analysis
This analysis helps find the best mix (source) of funding for the business. There is no fixed thumb rule — metrics like EPS, MPS and ROE must be worked out case-by-case in each problem.
### Sources of Funds Available
1. Equity share capital
2. Retained earnings
3. Preference share capital
4. Debentures
5. Long-term loans
### Core Objective
The basic objective of financial management is to design a capital structure that provides the highest wealth, i.e., the highest MPS, which in turn depends on EPS.
### Key Principles to Keep in Mind
- EPS varies with different financing mixes because of the level of debt financing.
- Leverage affects EPS through fixed financial charges — interest on debt and preference dividends.
- Favourable leverage (Trading on Equity): If Return on Assets > Cost of Financing, then increasing fixed-charge financing (debt/preference) raises EPS.
- Unfavourable leverage: If Return on Assets < Cost of Financing, then increasing debt/preference reduces EPS.
### Debt vs. Preference Shares
Debt financing is generally preferred because:
- Interest rates on debt are usually lower than fixed dividends on preference shares.
- Interest on debt is tax-deductible, lowering its real (effective) cost compared with preference capital (whose dividend is paid post-tax).
### Why this matters
Analysing capital structure and the leverage impact on EPS and MPS helps select the optimal debt level. EBIT–EPS analysis is therefore a crucial planning and design tool for the finance manager.
### Doubt Busters (Key Relationships)
1. EBIT (Operating Profit) does NOT change with the capital structure — it depends on operations, not financing.
2. MPS = EPS × P/E Ratio
3. EPS = Earnings Available to Equity Shareholders ÷ Number of Equity Shares