Question

The 2016 Form 10-K of NetFlix includes the following footnoted information. Use this information to answer the required.

The computation of net income per share is as follows:

Year ended December 31,

2016

2015

2014

(in thousands, except per share data)

Basic earnings per share:

Net income

$

186,678

$

122,641

$

266,799

Shares used in computation:

Weighted-average common shares outstanding

428,822

425,889

420,544

Diluted earnings per share:

Net income

$

186,678

$

122,641

$

266,799

Shares used in computation:

Weighted-average common shares outstanding	428,822			425,889			420,544
Employee stock options	9,830			10,567			11,350

Weighted-average number of shares

438,652

436,456

431,894

Employee stock options with exercise prices greater than the average market price of the common stock were excluded from the diluted calculation as their inclusion would have been anti-dilutive.

The following table summarizes the potential common shares excluded from the diluted calculation (in thousands):

2016

2015

2014

Year ended December 31,

(in thousands)

Employee stock options

1,545

517

917

Required:

a.	What are the potential sources of dilution of NetFlix’s earnings per share?
b.	List two additional dilutive securities (other than those NetFlix includes).
c.	NetFlix did not include all outstanding employee stock options in the calculation of diluted net income per share in 2016? Why not? How many options were excluded?
d.	Calculate basic EPS for each of the three years.
e.	Calculate diluted EPS for each of the three years.

Answer 1

Requirement a

The Net income for basic EPS computation and Dilutive EPS computation is same. The Weighted average number of equity shares outstanding is also same except for the inclusion of the employee stock options (ESOPs).

Hence, the only potential source for dilution for NEtflix is Employee stock options (ESOPs).

Requirement b

The two dilutive securities other than those Netflix includes are as follows-
(i) Convertible preferred stock
(ii) Convertible bonds
These securities are convertible into common stock at the pre-determined date. Hence, are dilutive in nature.

Requirement c

When diluted EPS exceeds the basic EPS, it is called as anti-dilution.
Always, the diluted EPS must be lower than the Basic EPS.

In the given case, the ESOPs with Exercise price exceeding the Average market price of common shares are anti-dilutive in nature, since the diluted EPS will exceed the basic EPS after giving effect the dilution. Hence, these options were excluded in the dilution computation.

In the year 2016, 1545 of such options were excluded.

Requirement d

Particulars	2016	2015	2014
Net Income (a)	$ 186,678	$ 122,641	$ 266,799
Weighted average no. of shares (b)	428,822	425,889	420,540
Basic EPS (a/b)	$ 0.435	$ 0.288	$ 0.634

Requirement e

Particulars	2016	2015	2014
Net Income (a)	$ 186,678	$ 122,641	$ 266,799
Weighted average no. of shares (b)	438,652	436,456	431,894
Diluted EPS (a/b)	$ 0.426	$ 0.281	$ 0.618