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venchlu
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Posted: 17 May 2010 at 15:29 \| IP Logged

CPAA

firm has basic earnings per share of $1.29. If the tax rate is 30%, which of the following securities would

be dilutive?

a. Cumulative 8%, $50 par preferred stock.

b. Ten percent convertible bonds, issued at par, with each $1,000 bond convertible into 20 shares of common stock.

c. Seven percent convertible bonds, issued at par, with each $1,000 bond convertible into 40 shares of common stock.

d. Six percent, $100 par cumulative convertible preferred stock, issued at par, with each preferred share convertible into four shares of common stock.

Explanation

Choice "c" is correct

How u guys approach this question? Thx!

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CharliePetApple
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Posted: 17 May 2010 at 16:45 \| IP Logged

net effect of 7% convertible bonds:

add back interest ( net of tax) 7%*1000*0.7= $49

per share $49.00/40 = 1.225 is less than 1.29 basic earning per share

the other choices contribute more than 1.29

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venchlu
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Posted: 17 May 2010 at 16:56 \| IP Logged

The way I looked at it- I assume EPS= 1.29= 129/100

A is definately wrong asnwer...doesn't mention "convertible"

B. Assume only one share of convertible bond. So( 129 + 1000 X 10% X 70% = 199 / 100 + 20 ) = 1.658

C. Assume only one share of covertible bond. So (129 + 1000 X 7% X 70%= 178 / 100 + 40 )= 1.2714...so it is less than 1.29...the correct answer.

D. Assume only one share of covertible P/S-

129 + Current year P/S dividend which is $6 = 135 / 100 + 4 = 1.29807 --> more than 1.29 ..so not the right answer.

Am I correct? Thanks!

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CharliePetApple
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Posted: 17 May 2010 at 17:01 \| IP Logged

yes, correct. The only thing you do not need to add 129, just look at per share contribution if bond or stock are converted....

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amu7
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Posted: 14 Jul 2010 at 08:22 \| IP Logged

venchlu wrote:

The way I looked at it- I assume EPS= 1.29= 129/100

A is definately wrong asnwer...doesn't mention "convertible"

B. Assume only one share of convertible bond. So( 129 + 1000 X 10% X 70% = 199 / 100 + 20 ) = 1.658

C. Assume only one share of covertible bond. So (129 + 1000 X 7% X 70%= 178 / 100 + 40 )= 1.2714...so it is less than 1.29...the correct answer.

D. Assume only one share of covertible P/S-

129 + Current year P/S dividend which is $6 = 135 / 100 + 4 = 1.29807 --> more than 1.29 ..so not the right answer.

Am I correct? Thanks!

Hey actually I was looking for this. Nice explanation. Just one question. Isn't it that we don't consider pref. stock dividend for calculation of diluted EPS? Can you please explain? Thanks

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