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Chapter 16: Q28E (page 881)

E16-28 (L05) (EPS with Warrants) Howat Corporation earned \(360,000 during a period when it had an average of 100,000 shares of common stock outstanding. The common stock sold at an average market price of \)15 per share during the period. Also outstanding were 15,000 warrants that could be exercised to purchase one share of common stock for $10 for each warrantexercised.

Instructions

(a) Are the warrants dilutive?

(b) Compute basic earnings per share.

(c) Compute diluted earnings per share.

Short Answer

Expert verified
  1. Yes, the warrants are dilutive.
  2. Basic Earnings per share $3.60
  3. Diluted Earnings per Share $3.43

Step by step solution

01

(a) Explanation on dilutive warrants

The warrants are dilutive in light of the fact that it allows its holders to change over it into a common stock. Also the option price of $10 is lower than the average market price of $15.

02

(b) Computation of basic earnings per share:

Net Income

$360,000

Average share outstanding

100,000

Basic Earnings Per share

$3.60

03

Computation of Diluted Earnings Per Share:

Incrementalshare=Marketprice-OptionPriceMarketprice脳Numberofwarrants=15-1015脳15,000=5000

Net Income

$360,000

Average share outstanding (100,000+5000)

105 000

Basic Earnings Per share

$3.43

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Most popular questions from this chapter

(EPS: Simple Capital Structure) At January 1, 2017, Langley Company鈥檚 outstanding shares included the following.

280,000 shares of \(50 par value, 7% cumulative preferred stock

900,000 shares of \)1 par value common stock

Net income for 2017 was \(2,530,000. No cash dividends were declared or paid during 2017. On February 15, 2018, however, all preferred dividends in arrears were paid, together with a 5% stock dividend on common shares. There were no dividends in arrears prior to 2017.

On April 1, 2017, 450,000 shares of common stock were sold for \)10 per share, and on October 1, 2017, 110,000 shares of common stock were purchased for $20 per share and held as treasury stock.

Instructions

Compute earnings per share for 2017. Assume that financial statements for 2017 were issued in March 2018.

Assume that Sarazan Company has a share-option plan for top management. Each share option represents the right to purchase a \(1 par value ordinary share in the future at a price equal to the fair value of the shares at the date of the grant. Sarazan has 5,000 share options outstanding, which were granted at the beginning of 2017. The following data relate to the option grant.

Exercise price for options \)40

Market price at grant date (January 1, 2017) \(40

Fair value of options at grant date (January 1, 2017) \)6

Service period 5 years

Instructions

(a) Prepare the journal entry(ies) for the first year of the share-option plan.

(b) Prepare the journal entry(ies) for the first year of the plan assuming that, rather than options, 700 shares of restricted shares were granted at the beginning of 2017.

(c) Now assume that the market price of Sarazan shares on the grant date was $45 per share. Repeat the requirements for (a) and (b).

(d) Sarazan would like to implement an employee share-purchase plan for rank-and-file employees, but it would like to avoid recording expense related to this plan. Explain how employee share-purchase plans are recorded?

Explain how the conversion feature of convertible debt has a value (a) to the issuer and (b) to the purchaser.

(Issuance, Exercise, and Termination of Stock Options) On January 1, 2018, Titania Inc. granted stock options to officers and key employees for the purchase of 20,000 shares of the company鈥檚 \(10 par common stock at \)25 per share. The options were exercisable within a 5-year period beginning January 1, 2020, by grantees still in the employ of the company, and expiring December 31, 2024. The service period for this award is 2 years. Assume that the fair value option-pricing model determines total compensation expense to be \(350,000.On April 1, 2019, 2,000 options were terminated when the employees resigned from the company. The market price of the common stock was \)35 per share on this date.On March 31, 2020, 12,000 options were exercised when the market price of the common stock was $40 per share.

Instructions

Prepare journal entries to record issuance of the stock options, termination of the stock options, exercise of the stock options, and charges to compensation expense, for the years ended December 31, 2018, 2019, and 2020.

(EPS with Complex Capital Structure) Amy Dyken, controller at Fitzgerald Pharmaceutical Industries, a public company, is currently preparing the calculation for basic and diluted earnings per share and the related disclosure for Fitzgerald鈥檚 financial statements. Below is selected financial information for the fiscal year ended June 30, 2017.

FITZGERALD PHARMACEUTICAL INDUSTRIES

SELECTED BALANCE SHEET

INFORMATION

JUNE 30, 2017

Long-term debt

Notes payable, 10% \( 1,000,000

8% convertible bonds payable 5,000,000

10% bonds payable 6,000,000

Total long-term debt \)12,000,000

Shareholders鈥� equity

Preferred stock, 6% cumulative, \(50 par value,

100,000 shares authorized, 25,000 shares issued

and outstanding \) 1,250,000

Common stock, \(1 par, 10,000,000 shares authorized,

1,000,000 shares issued and outstanding 1,000,000

Additional paid-in capital 4,000,000

Retained earnings 6,000,000

Total shareholders鈥� equity \)12,250,000

The following transactions have also occurred at Fitzgerald.

1. Options were granted on July 1, 2016, to purchase 200,000 shares at \(15 per share. Although no options were exercised

during fiscal year 2017, the average price per common share during fiscal year 2017 was \)20 per share.

2. Each bond was issued at face value. The 8% convertible bonds will convert into common stock at 50 shares per \(1,000

bond. The bonds are exercisable after 5 years and were issued in fiscal year 2016.

3. The preferred stock was issued in 2016.

4. There are no preferred dividends in arrears; however, preferred dividends were not declared in fiscal year 2017.

5. The 1,000,000 shares of common stock were outstanding for the entire 2017 fiscal year.

6. Net income for fiscal year 2017 was \)1,500,000, and the average income tax rate is 40%.

Instructions

For the fiscal year ended June 30, 2017, calculate the following for Fitzgerald Pharmaceutical Industries.

(a) Basic earnings per share.

(b) Diluted earnings per share.
See all solutions

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