trading on equity
This query is : Resolved
09 May 2011
what is the meaning of trading on equity in simple terms???????please explain..... its urgent....
CA Gunjan Kedia
(Expert)
10 May 2011
Hi Nisha,
In simple terms, trading on equity refers to the use of leverage to increase the profit available to equity shareholders. this is achieved bcoz cost of debt financing is less than the cost of equity financing.
take an example:
say cost of debt financing is 10%, whereas cost of equity is 16%.
now a co. has an EBIT of Rs. 50,000 & needs Rs. 100,000 capital. if it opts to raise this entire amt. thru equity of Rs. 10 face value, the entire profit of Rs. 50,000 gets distributed among 10,000 shareholders and each one gets Rs. 5.
however, if the co. opts to raise Rs. 60,000 thru debt and remaining thru equity, the position is as follows:
profit - 50,000
less: interest - 6,000 (10% on Rs. 60,000)
remaining profit - 44,000
now this 44,000 will b divided among 4,000 equity holders. thus each one will get Rs. 11
gud luck !!
In simple terms, trading on equity refers to the use of leverage to increase the profit available to equity shareholders. this is achieved bcoz cost of debt financing is less than the cost of equity financing.
take an example:
say cost of debt financing is 10%, whereas cost of equity is 16%.
now a co. has an EBIT of Rs. 50,000 & needs Rs. 100,000 capital. if it opts to raise this entire amt. thru equity of Rs. 10 face value, the entire profit of Rs. 50,000 gets distributed among 10,000 shareholders and each one gets Rs. 5.
however, if the co. opts to raise Rs. 60,000 thru debt and remaining thru equity, the position is as follows:
profit - 50,000
less: interest - 6,000 (10% on Rs. 60,000)
remaining profit - 44,000
now this 44,000 will b divided among 4,000 equity holders. thus each one will get Rs. 11
gud luck !!
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