Question

BWT, Inc. shows the following data in its financial statements at the end of the year. Assume all securities were outstanding for the entire year. 6.125% convertible bonds, convertible into 33 shares of common stock. Issue price $1,000, 100 bonds outstanding. 6.25% convertible preferred stock, $100 par, 2,315 shares outstanding. Convertible into 3.3 shares of common stock, Issue price $100. 8% convertible preferred stock, $100 par, 2,572 shares outstanding. Convertible into 5 common shares, Issue price $80. 9,986 warrants are outstanding with an exercise price of $38. Each warrant is convertible into 1 share of common. Average market price of common is $52.00 per share. Common shares outstanding at the beginning of the year were 40,045. Net Income for the period was $200,000, while the tax rate was 40%. What are the basic and diluted EPS for the year? Basic EPS Diluted EPS

Answer 1

Answers: Basic EPS = $4.12 and diluted EPS = $3.06

Calculations:

Basic EPS = Net income − preferred dividends / Weighted average shares of common

Preferred dividends: 6.25% convertible preferred stock

(0.0625)($100)(2,315) = $14,469

8% convertible preferred stock: (0.08)($100)(2,572) = $20,576

Preferred dividends = $14,469 + $20,576 = $35,045.

Basic EPS = ($200,000 − $35,045) / 40,045 = 164,955/40,045 = $4.12

Diluted EPS: First, check each of the potentially dilutive securities for dilution.

6.125% convertible bonds: (Convertible debt interest)(1 - tax rate) / Common shares if converted

= (0.06125)($1,000)(100)(1 − 0.4) / (33)(100) = $1.1136

Because this is less than basic EPS, these convertible bonds are dilutive.

6.25% convertible preferred stock: Preferred dividend / Common shares if converted

= (0.0625)($100) / 3.3 = $1.8939

Because this is less than basic EPS, this convertible preferred stock is dilutive.

8% convertible preferred stock: Preferred dividend / Common shares if converted

= (0.08)($100) / 5 = $1.60 Because this is less than basic EPS, this convertible preferred stock is dilutive.

Warrants: Because the exercise price $38 is less than average share price $52, the warrants are dilutive.

Next, determine the number of common shares that would be created by exercise of each dilutive security: 6.125% convertible bonds: (100 bonds)(33) = 3,300 common shares

6.25% convertible preferred stock: (2,315 preferred shares)(3.3) = 7,640 common shares

8% convertible preferred stock: (2,572 preferred shares)(5) = 12,860 common shares

Warrants: [($52 - $38) / $52] × 9,986 = 2,689 common shares

Diluted EPS = (Net income − preferred dividends + convertible preferred dividends + after-tax convertible debt interest) / Weighted average shares of common adjusted for exercise [($200,000 − $35,045) + $35,045 + (0.06125)($1,000)(100)(1 − 0.4)] / (40,045 + 3,300 + 7,640 + 12,860 + 2,689) = $203,675 / 66,534 shares = $3.06