On Jun 30, 2006, Lomond Inc issued twenty $10k, 7% bonds at par. Each bond was convertible into 200 shares of common stock. On Jan 1, 2007, 10k shares of common stock were outstanding. The bondholders converted all the bonds on Jul 1, 2007. The following amounts were reported in Lamond's income statement for the year ended Dec 31, 2007:

Revenues           977k
Operating Expenses        (920k)
Interest on Bonds             (7k)
Income before income tax  50k
Income Tax at 30%         (15 k)
Net Income                       35k

What's Lamond's 2007 diluted EPS?

Answer: $2.85

BEPS =               35k            = 2.92
          (1/2) 10k + (1/2) 14k

Diluted EPS = 35k + 4.9k = 2.85
                    12k + 2k
------------------------------------------------------------ ------------------------------------------------------------ ------------

My understanding is that the denominator of BEPS should be weighted-average common shares outstanding, i.e. 10k, and exclude the effect on convertible bonds. I am puzzled how to obtain the mentioned denominator. Please kindly help.

Ingnore the 1/2 concept.  The 1/2 applies 6 months out of 12.  There are two methods, and I suggest you to use the second method as follows:

You have 10,000 shares from 01/01/0x and 4000 shares from 07/01/0x.  The second method is as follows:

01/01/0x - 12/31/0x = 12/12         * 10,000 = 10,000

07/01/0x - 12/31/0x = 6/12         &n bsp; *4,000=2,000

and,

for diluted EPS

01/01/0x -12/31/0x=12/12       &nb sp;    *10,000

01/01/0x -12/31/0X=12/12       &nb sp;    *4,000 (retrospective as you add back the interest expense net of tax)

siushan wrote: Thank you, Another 71. I understand how to calculate the diluted EPS. But for the basic EPS, the denominator = (1/2) 10k + (1/2) 14k = 12k. Is the convertible equivalents included in the denominator of basic EPS? Also I don't understand why it is one-half.

The convertible equivalents are not included in the denominator of basic EPS, only diluted EPS