Question

The 2018 annual report of Best Buy Co., Inc., reported profitable operations for the most recent six years. However, the company suffered a net loss in 2012. Best Buy reported the following for the twelve months ended March 3, 2012: 

 

The calculation of diluted earnings per share assumes the conversion of the company’s previously outstanding convertible debentures due in 2027 into 8.8 million shares common stock . . . and adds back the related aftertax interest expense of $1.5. . . . The calculation of diluted (loss) per share for the twelve months ended March 3, 2012, does not include potential dilutive shares of common stock because their inclusion would be antidilutive (i.e., reduce the net loss per share). 

 

Required: 

1. The note indicates that “diluted earnings per share assumes the conversion of the company’s previously outstanding convertible debentures due in 2027 into 8.8 million shares common stock . . . and adds back the related after-tax interest expense of $1.5.” Apparently, these bonds were actually converted during the year. By how much would diluted EPS have been different if the bonds had not been converted and were still outstanding? 

2. Best Buy does not include potentially dilutive shares when calculating EPS for the twelve months ended March 3, 2012. Assume Best Buy had 40 million common equivalent shares and included them in the calculation, what would have been the amount of diluted loss per share for the twelve months ended March 3, 2012?

Answer 1

Diluted Earnings per Share:

Diluted earnings per share refers to the situation due to the existence of outstanding potential common shares for convertible bonds, convertible preference shares, stock options and contingently issuable securities, there is chance of increase in numbers of outstanding common shares that dilutes (reduce) the earnings per share or EPS.

 

Earnings per Share (EPS):

The share or portion of profit earned by each share for company is called as earnings per share. If the number of potential shares increase due to conversion or exercise, the basic EPS gets diluted. Earnings per share is calculated by dividing the difference of net income and preference dividends with the weighted average number of common shares outstanding as shown below:

 

Earnings per share = (Net income – Preferred dividends)/

                                       Weighted average number of common shares outstanding

 

1.

The note indicates that “diluted earnings per share assume the conversion of the company’s previously outstanding convertible debentures due in 2027 expense of $1.5 million. Apparently, these bonds were converted during the year. Therefore the diluted EPS would have remained unchanged, if the bonds had not been converted and were still outstanding.

 

When the actual conversion takes place, the number of outstanding common shares increases. As the number of outstanding shares is the denominator, it is increased by the time-weighted fraction of the year; depending on the time of the year such conversion takes place. Similarly, the numerator would also be increased by the after-tax interest saved for the remaining part of the year because of the conversion. But this would not be considered as an adjustment for EPS calculation.

 

In this situation it is assumed that the conversion has taken place before actual conversion as the outstanding convertible debentures were potential dilutive common shares and the 8.8 million common shares were time weighted for that period. Similarly the numerator is increased by after-tax interest as assumed to be saved from the conversion of the debentures.

 

2.

The BB Company, does not include potentially dilutive shares when calculating EPS for the twelve months ended March 3, 2012. As indicated in the annual report, the BB Company has reported loss per share, which is because the company has incurred net loss. In this situation the potential dilutive shares would act as antidilutive, this is because the loss per share would reduce and thus signs a good performance for the company. That may be proved to be misleading for the creditors and investors.

 

Therefore, the potential dilutive common shares are not included in the calculation of the net loss per share for BB Company.

 

Compute the net loss of BB company with the given weighted average common shares and basic (loss) per share, as follows:

 

Loss per share = Net loss/Weighted average common shares

     Or, Net loss = Loss per share × Weighted average common shares

                           = $3.36 × 366.3 million shares

                           = $1,231 million

 

When it is assumed that the BB Company had 40 million common equivalent shares and included them in the calculation, then the diluted loss per share for the company would have reduced to $3.03 from the present $3.36, this is because the denominator would be increased by 40 million, thus the calculation is as follows:

 

Lost per share = Net loss /Weighted average common shares

                           = $1,231 million/366.3 million + 40 million

                           = $1,231 million/406.3 million

                           = $3.03

Lost per share = $3.03.