Explanation:

In a digital system, information is fundamentally represented using binary digits. The smallest unit of information is a 'bit', which can hold a value of either $0$ or $1$. A 'Byte' (option a) is a group of $8$ bits. A 'Kilobyte' (option b) is $1024$ bytes. A 'Word' (option c) is a larger unit, typically $2$, $4$, or $8$ bytes, depending on the computer's architecture. A 'Character' (option d) typically occupies $1$ byte (or more for multi-byte encodings like Unicode), representing a symbol. Since a bit is the most granular unit of data, capable of representing the smallest piece of information (a binary choice), it is the smallest unit in a digital system. Therefore, option (e) bit is the correct answer.