Question

The information below pertains to Metlock Company for 2021.

Net income for the year		$1,180,000
7% convertible bonds issued at par ($1,000 per bond); each bond is convertible into     30 shares of common stock		1,910,000
6% convertible, cumulative preferred stock, $100 par value; each share is convertible      into 3 shares of common stock		3,820,000
Common stock, $10 par value		5,850,000
Tax rate for 2021		20%
Average market price of common stock		$25 per share

There were no changes during 2021 in the number of common shares, preferred shares, or convertible bonds outstanding. There is no treasury stock. The company also has common stock options (granted in a prior year) to purchase 69,200 shares of common stock at $20 per share.

(a) Compute basic earnings per share for 2021. (Round answer to 2 decimal places, e.g. $2.55.)

Basic earnings per share

$

(b) Compute diluted earnings per share for 2021. (Round answer to 2 decimal places, e.g. $2.55.)

Diluted earnings per share

$

Answer 1

1.Basic EPS is computed as:

BEPS=(Net Income-Preferred Dividend)/Weighted average no.of equity shares

BEPS=($1,180,000-$229,200)/585,000

BEPS=$950,800/585,000

BEPS=$1.63

working note:

Preferred dividend=3,820,000*6%=229,200

Weighted average no. of equity shares=5,850,000/10=585,000

2.Diluted EPS is computed as:

Diluted EPS=(Net Income-Preferred dividend)+Interest savings(net of tax)/(Weighted average no. of equity shares+Potentially dilutive common shares)

Diluted EPS=(($1,180,000-$229,200)+$106,960)/ (585,000+13,840 +57,300)

Diluted EPS=$1,057,760/$656,140

Diluted EPS=$1.61

Working notes:

1.Int savings(net of tax)=1,910,000*7%*(1-0.20)=$106,960

2.Incremental shares=((Market price-Option price)/Market price)*No.of options

Inctemental shares=((25-20)/25)*69,200=13,840 shares

3.($1,910,000/$1,000)*30 shares

=57,300 shares

4.Preferred atock is not assumed converted as conversion would be anti-dilutive.