Skip to content

CS Executive · Corporate Accounting and Financial Management · Introduction to Financial Management

Sundaram Ltd. has two mutually exclusive projects. Project A raises the firm's expected share price by ₹6 per share but earns lower reported EPS in year 1; Project B lowers the expected share price by ₹2 per share but raises year-1 EPS. The CFO is paid a bonus on year-1 EPS only. Which statement is correct?

Project A maximises shareholder wealth because it raises the share price by ₹6 while B reduces it by ₹2. However, a bonus linked only to year-1 EPS tempts the CFO to pick B, which is an agency conflict arising from a short-term incentive.

  1. AChoosing B serves shareholder wealth maximisation, since EPS is the true objective
  2. BChoosing A maximises shareholder wealth, but the EPS-linked bonus creates an incentive for the CFO to choose BCorrect
  3. CChoosing A is wrong because any project reducing year-1 EPS must be rejected
  4. DBoth projects are equal because share price and EPS always move together

Explanation

Wealth maximisation is judged by the effect on share price, so A (+₹6) beats B (−₹2). The bonus tied to year-1 EPS rewards B, producing an agency conflict. EPS ignores timing and risk, so the claim that B is correct or that they move together is wrong.

Did you get it right without looking?

One question tells you little. A timed set on Introduction to Financial Management shows your real accuracy, how long you take and where you lose marks.

Practise Introduction to Financial ManagementFree diagnostic mock

More Introduction to Financial Management questions