Question

On December 31, 2015, Dow Steel Corporation had 770,000 shares of common stock and 47,000 shares of 9%, noncumulative, nonconvertible preferred stock issued and outstanding. Dow issued a 5% common stock dividend on May 15 and paid cash dividends of $570,000 and $86,000 to common and preferred shareholders, respectively, on December 15, 2016.

On February 28, 2016, Dow sold 68,000 common shares. Also, as a part of a 2015 agreement for the acquisition of Merrill Cable Company, another 35,000 shares (already adjusted for the stock dividend) are to be issued to former Merrill shareholders on December 31, 2017, if Merrill's 2017 net income is at least $670,000. In 2016, Merrill's net income was $800,000.

In keeping with its long-term share repurchase plan, 4,000 shares were retired on July 1. Dow's net income for the year ended December 31, 2016, was $2,950,000. The income tax rate is 40%.

As part of an incentive compensation plan, Dow granted incentive stock options to division managers at December 31 of the current and each of the previous two years. Each option permits its holder to buy one share of common stock at an exercise price equal to market value at the date of grant and can be exercised one year from that date. Information concerning the number of options granted and common share prices follows:

Date Granted	Options Granted		Share Price
	(adjusted for the stock dividend)
December 31, 2014	24,000		$	40
December 31, 2015	19,000		$	49
December 31, 2016	22,500		$	48

The market price of the common stock averaged $48 per share during 2016.

On July 12, 2014, Dow issued $900,000 of convertible 10% bonds at face value. Each $1,000 bond is convertible into 40 common shares (adjusted for the stock dividend).

Compute Dow's diluted earnings per share for the year ended December 31, 2016

Answer 1

Calculation of Diluted EPS

Particulars	Common Stock	Non-convertible Preferred stock	Convertible Preferred stock	Promised stock issue (Dividend adjusted)	Remarks
On Dec-31, 2015	770,000	47,000
New Issue on Feb 28, 2016	68,000
Toward acquisition of Merrill Cable				35,000
On July1, 2016 -- Stock retired	-4,000
Option granted to Division Managers -
Option granted on Dec-2014					No impact, as conversions must have taken place before 12-31-2015
Option granted on Dec-2015					No impact, as the Option price is higher than the 2016 market price
Option granted on Dec-2016	22,500
Convertible Bonds issued in 2014 --- 900 X $1,000 bonds			36,000
TOTAL	856,500	47,000	36,000	35,000
To be considered for Diluted EPS	Yes	Yes	No	Yes
Base for Diluted EPS calculation	927,500
Net Income in Year 2016	2,950,000
Less: Income Tax @ 405	-1,180,000
Less: 9% Dividend to $47,000 Non-convertible Preferred stock	-4,230
Add: 10% Interest paid to $900,000 convertible Bonds	90,000
Adjusted Income	1,855,770
Diluted EPS = B/A =	2.00