Question

On December 31, 2017, Berclair Inc. had 260 million shares of common stock and 6 million shares of 9%, $100 par value cumulative preferred stock issued and outstanding. On March 1, 2018, Berclair purchased 24 million shares of its common stock as treasury stock. Berclair issued a 5% common stock dividend on July 1, 2018. Four million treasury shares were sold on October 1. Net income for the year ended December 31, 2018, was $200 million. The income tax rate is 40%. Also outstanding at December 31 were incentive stock options granted to key executives on September 13, 2013. The options are exercisable as of September 13, 2017, for 30 million common shares at an exercise price of $56 per share. During 2018, the market price of the common shares averaged $70 per share. In 2014, $62.5 million of 8% bonds, convertible into 6 million common shares, were issued at face value.

Required: Compute Berclair’s basic and diluted earnings per share for the year ended December 31, 2018.

Answer 1

Requirement 1

                                                                                                                                                                                (Amount in mn)

Net Income	200
Less : Preferred Dividend (100*9%*6)	54
Earnings available common stockholders (Numerator)	146

Note: Preferred stock is cumulative. Hence, dividend is deducted whether or not paid

Date	Workings	weighted O/S shares
1.1 to 31.12	260 * 1.05 * 12/12	273
1.3 to 31.12	(24) * 1.05 * 10/12	(21)
1.10 to 31.12	4 * 3/12	1
Weighted average outstanding shares (Denominator)		253

Basic EPS = Numerator/Denominator = 146/253 = 0.577

Requirement 2

Stock options as exercisable securities

These are dilutive as exercise price of $56 per share is less than market price of $70 per share

Using the treasury stock method,

• Assuming exercise date as 1/1/2018
• Under this method, the proceeds received after exercise of 30 * 56 =$1680 million are used to buy back stock at market price (average) i.e. 1680/70 = 24
• Increase in number of shares equals = 30 mn issued upon exercise less 24 million repurchased = 6million

Convertible bonds securities.

Interest not to be paid (net of tax) = 62.5 * (1-0.4) *8% =                $3 mn

Number of shares on conversion= 6 million, then, num/den = 3/6 = $ 0.5

EPS assumed without conversion = 146/(253+6) = $ 0.563 per share

Hence, bonds are dilutive as 0.50 < 0.563

Now, we take another route of converted method and Assuming conversion date is 1/1/2018,

Dilutive EPS = (146 + 3)/(253 + 6+6) = $ 0.562 per share