Question
If a financially stressed company raises funds through a
preferential issue of shares (under SEBI relaxations), what will be the impact on its Debt/Equity ratio, assuming debt remains unchanged?Solution
When a company raises funds through a preferential issue of shares, it increases its equity capital without adding to its debt. • The Debt/Equity ratio is calculated as: Debt/Equity Ratio=Total Equity / Total Debt • ince debt remains constant while equity rises, the denominator increases, resulting in a lower ratio. Example: • Suppose equity = ₹5 lakh and debt = ₹10 lakh. Debt/Equity = 10 ÷ 5 = 2.0 times. • If new equity of ₹1 lakh is issued, total equity = ₹6 lakh, while debt stays at ₹10 lakh. Debt/Equity = 10 ÷ 6 = 1.67 times. Hence, the Debt/Equity ratio decreases.
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