Question

Porter Corporation owns all 34,000 shares of the common stock of Street, Inc. Porter has 73,000 shares of its own common stock outstanding. During the current year, Porter earns net income (without any consideration of its investment in Street) of $290,000 while Street reports $236,000. Annual amortization of $15,000 is recognized each year on the consolidation worksheet based on acquisition-date fair-value allocations. Both companies have convertible bonds outstanding. During the current year, bond-related interest expense (net of taxes) is $57,000 for Porter and $39,000 for Street. Porter’s bonds can be converted into 13,000 shares of common stock; Street’s bonds can be converted into 16,000 shares. Porter owns none of these bonds.

What are the earnings per share amounts that Porter should report in its current year consolidated income statement? (Round your answers to 2 decimal places.)

Basic

Diluted

Answer 1

Solution

Porter Corporation

Determination of the earnings per share that Porter should report in its current year consolidated income statement:

• Computation of basic EPS

Porter’s reported income                     $290,000

Street’s reported income                     $236,000

Amortization expense                         ($15,000)

Consolidated net income                    $511,000

Porter’s Shares outstanding                73,000

Basic earnings per share                      $7        ($511,000/73,000 = $7)

• Computation of diluted EPS Street Company

Street’s reported income                     $236,000

Less: amortization expense                 $15,000

Income after amortization                   $221,000

Shares outstanding in Street               34,000

Basic EPS                                           $6.50   ($221,000/34,000 = $6.50)

Street’s Earnings assuming conversion of its bonds - $221,000 + $39,000 (interest savings after tax) = $260,000

Street’s share assuming conversion of its bonds (34,000 + 16,000) = 50,000

Diluted EPS                                        $5.20   ($260,000/50,000 = $5.20)

Since diluted EPS ($5.20) is less compared to basic EPS ($6.50), the convertible bonds are dilutive hence should be included.

Computation of Porter’s Share in Street’s diluted earnings –

Total shares assuming bond conversion          50,000

Shares held by Porter                                      34,000

Porter’s Ownership percent                            68%

Street’s earnings for diluted EPS                   $260,000

Porter’s ownership share                                 $176,800         (260,000 x 68%)

Porter’s earnings and number of shares for diluted EPS –

Porter’s reported income                     $290,000

Porter’s income in Street                     $176,800

Interest saved (after tax) on assumed conversion of Porter’s bonds $57,000

Porter’s Diluted Earnings                   $517,800

Porter’s outstanding shares                 73,000

Add: shares from assumed bond conversion 13,000

Diluted shares                                     86,000

Diluted earnings per share                  $6.02   ($517,800/86,000)

Hence,

Porter Company Consolidated Income Statement

Earnings per Share      $7.00

Diluted Earnings per share      $6.02