Question

Harris Pilton has 150,000 shares of common stock outstanding on January 1. On February 1, the company issued 50,000 additional shares for $50.00 each. On April 30, the company repurchased 5,000 treasury shares. On June 1, the company made a 4-for-3 bonus issue. On August 1, the company issued 1,000 new shares of common stock for $45.00 each. On September 30th, the company issued a 15% stock dividend. Harris Pilton has 2,000 shares of 5%, $10 par, noncumulative, nonconvertible preferred stock. Dividends were declared for the period. Harris Pilton also has in issue $100,000 of 7% convertible bonds due in 5 years. Each bond has a $1,000 par value and each $1,000 bond is convertible into 5 shares of common stock. Net income for the period is $540,000. The tax rate is 11%.

Instructions

1. Compute the weighted average number of common shares outstanding.

2. Compute basic earnings per share for the period.

3. Compute diluted earnings per share for the period.

4. If the nonconvertible preferred stock were instead convertible, briefly explain how this would have affected diluted earnings per share.

5. If the noncumulative preferred stock were cumulative, briefly explain how this would have affected diluted earnings per share.

Answer 1

1. Compute the weighted average number of common shares outstanding.(WANCSO)

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WANCSO

Beginning share outstanding ………………………..…….150000

Add: On Feb 1 -issued 50000 * 11 / 12 =………………45833

Less: On April 30, Repurchased = 5000 * 4 / 12 …..1667

Total on this date ………………………………………………..197500

Add: On Jun 1, Bonus 4 for 3 (197500 / 3 ) * 4 …….…263333

Add: on Aug 1, issued 1000 * 5 / 12------……….------417

Balance ………………………………………………………….…..461250

Add: On September 30^th, stock dividend 15%..= 461250 *15% = 69188

WANCSO………………………………………..461250 + 69188 = 530438

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2. Compute basic earnings per share for the period.

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Basic EPS = ( Net income - Preferred dividend ) / WANCSO

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Net income = $540000

Preferred dividend = 2000 * 10 * 5% = 1000

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Basic EPS = ( 540000 - 1000 ) / 530438

Basic EPS = 539000 / 530438

Basic EPS = $1.02 per share.

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3. Compute diluted earnings per share for the period.

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For the calculation first calculate EPS effect of potential convertible items

Here the bond only can convert, so

EPS effect of bond = After tax interest / Converted share

After tax interest = 100000 * 7% = 7000 - 11% = 6230

Converted share = 100000 / 1000 * 5 = 500 share

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EPS effect of bond = 6230 / 500 = 12.46

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It has the higher than the Basic EPS, so it is anti dilutive.

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So Basic EPS is sames as the Diluted EPS

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Diluted EPS = $1.02 per share.

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4. If the nonconvertible preferred stock were instead convertible, briefly explain how this would have affected diluted earnings per share.

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First calculate the EPS effect of Convertible preferred stock, if it is dilutive.

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Add: Preferred dividend in numerator and potential converted share in denominator

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Which means in the numerator does not deduct preferred dividend.

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When,

Diluted EPS = Net income / ( WANCSO + potential converted share )

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So the diluted EPS is should less than the Basic EPS value, otherwise the preferred stock is anti silutive in nature.

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5. If the noncumulative preferred stock were cumulative, briefly explain how this would have affected diluted earnings per share.

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If prior year dividend are not paid for cumulative preferred stock, it is accumulate in future year and paid before any common dividend are paid,

Suppose, the preferred dividend are in arrears, it should deduct from net income In numerator to calculate EPS.