Question 4.16: A Diluted EPS Calculation Using the If-Converted Method for ...
A Diluted EPS Calculation Using the If-Converted Method for Preferred Stock
For the year ended 31 December 2006, Bright-Warm Utility Company had net income of $1,750,000. The company had an average of 500,000 shares of common stock outstanding, 20,000 shares of convertible preferred, and no other potentially dilutive securities. Each share of preferred pays a dividend of $10 per share, and each is convertible into five shares of the company’s common stock. Calculate the company’s basic and diluted EPS.
If the 20,000 shares of convertible preferred had each converted into 5 shares of the company’s common stock, the company would have had an additional 100,000 shares of common stock (5 shares of common for each of the 20,000 shares of preferred). If the conversion had taken place, the company would not have paid preferred dividends of $200,000 ($10 per share for each of the 20,000 shares of preferred). As shown in Exhibit 4-9, the company’s basic EPS was $3.10 and its diluted EPS was $2.92.
EXHIBIT 4-9 Calculation of Diluted EPS for Bright-Warm Utility Company
| Using the If-Converted Method: Case of Preferred Stock | ||
| Basic EPS | Diluted EPS Using If-Converted Method | |
| Net income | $1,750,000 | $1,750,000 |
| Preferred dividend | –200,000 | 0 |
| Numerator | $1,550,000 | $1,750,000 |
| Weighted average number of shares outstanding | 500,000 | 500,000 |
| If converted | 0 | 100,000 |
| Denominator | 500,000 | 600,000 |
| EPS | $3.10 | $2.92 |