Question

During 2019 ROD Company has the following changes in its ordinary outstanding: Dates Shares changes Number of shares January 1 Beginning balance 280000 February 28 Issued 20000 May 31 Acquisition of share for treasury 50000 August 1 20% share dividends Oct 1 shares issued for cash 120000 Nov. 1 Sold treasury shares 30000 Dec1 Share split 1to3 after treasury Dec1 After split issued 150,000 Other information: 1- Company has 2% convertible bonds (every $10 bonds can be convert for one ordinary share) at $5000000, interest paid seminally June 30and December 31 2- Share options for the manager was outstanding during the period, the option was rights to manager to purchase 10000 shares at $8, the share par value was $5 and the market price $16. 3- 5% cumulative preference share (10000 shares at $40), there isn’t dividend in arrears can be convert to 100,000 ordinary shares. 4- The beginning balance for retained earnings 1,200,000. Sales revenues 1000000, Operating expenses was 640,0000 including cost of goods sold 400,000, the interest for the years was just for bonds, other losses or gains credit 40,000, the rate of income tax was 20%. Required According to above information compute basic and diluted earning per share and represented in the income statement for the year ended 31, December 2019?

Answer 1

Computation of basic earnings per share

Computation of weighted average number of equity shares outstanding;

Date	Particulars	Weight	Calculation	Weighted number of shares
Jan 1	Balance – 280000 shares	Jan- Dec= 12/12= 1	280000*1	280000
Feb 28	Issued- 20000 shares	March-Dec= 10/12	20000*10/12	16667
May 31	Acquisition of treasury stock- 50000	June-Dec= 7/12	50000*7/12	(29167)
Aug 1	Share dividend 20%	Assuming that it was issued in the beginning.	(280000+16667-29167) *20%	53500
Oct 1	Issued -120000	Oct-Dec= 3/12	120000*3/12	30000
Nov 1	Sold treasury shares- 30000	Nov-Dec= 2/12	30000*2/12	5000
Dec 1	Stock split 1 for 3	Assuming that it was issued in the beginning.	(280000+16667-29167+53500+30000+ 5000) * 2	712000
Dec 1	Issued - 150000	Dec= 1/12	150000/12	12500
Weighted average number of equity shares outstanding				1080500 shares

Computation of net income;

Sales revenue                                              $1000000

Operating expenses                                     ($640000)

Interest expense (5000000*2%)                   ($100000)

Other gains                                                 $40000

Income before tax                                        $300000

Tax (20%)                                                   ($60000)

Net income                                                  $240000

Less: Preferred dividend (10000*40*5%)     ($20000)

Income available for equity share holders     $220000

Basic Earnings per share

= Income available for equity share holders/ Weighted average number of equity shares outstanding

= $220000/ 1080500= $0.204 per share

Computation of diluted earnings per share

Dilutive effect on each item;

Bonds

Increase in income on conversion= After tax interest= 100000-20%

= $80000

Increase in number of shares= $5000000/ $10 per share= 500000 shares

Dilutive effect= Increase in income/ Increase in number of shares

= $80000/ 500000 shares= 0.16

Preferred dividend

Increase in income on conversion= $20000 (Preferred dividend)

Increase in number of shares= 100000 shares

Dilutive effect= $20000/100000= 0.2

The options will be the highest dilutive item and among bonds and preferred stock and bonds, bonds are highly dilutive. So ranking must be considered computing dilutive EPS will be options, bonds then preferred stock.

Increase in number of shares after the exercise of options= 10000- Shares can be repurchased

= 10000 – (10000*8/16) = 5000 shares

EPS after the exercise of options

= Income available for equity share holders/ Weighted average number of equity shares outstanding+ Increase in number of shares

= $220000/ 1080500+5000= $0.203 per share

Considering conversion of bonds

Diluted eps= Income available for equity share holders + Increase in after tax income/ Weighted average number of equity shares outstanding+ Increase in number of shares

= $220000+$80000/ 1080500+5000+500000= $300000/1585500

= $0.189

Considering conversion of preferred stock

Diluted eps = Income available for equity share holders + Increase in income/ Weighted average number of equity shares outstanding+ Increase in number of shares

= $300000+20000/ 1585500+100000= $0.19

Preferred stock causing am anti-dilutive effect. So it should not be considered.

Consider EPS after adjustment of Bonds.

Diluted earnings per share = $0.189

ROD Company

Income statement for the year ended 31, December 2019

Particulars	Amount	Amount
Sales revenue		$1000000
Less: Cost of goods sold		($400000)
Gross profit		$600000
Less: Operating expense		($240000)
Other gains		$40000
Less: Interest expenses		($100000)
Income before tax		$300000
Interest expense	300000*20%	($60000)
Net income		$240000
Less: Preferred stock dividend	(10000*40*5%)	($20000)
Income available for equity share holders		$220000
Basic earnings per share	Income available for equity share holders/ Weighted average number of equity shares outstanding = $220000/ 1080500=	$0.204 per share
Diluted earnings per share		$0.189 per share