Question

On January 1, 2020, Cullumber Company issued 10-year, $1,810,000 face value, 6% bonds, at par. Each $1,000 bond is convertible into 15 shares of Cullumber common stock. Cullumber's net income in 2020 was $403,200, and its tax rate was 20%. The company had 96,000 shares of common stock outstanding throughout 2020. None of the bonds were converted in 2020. (a) Compute diluted earnings per share for 2020. (Round answer to 2 decimal places, e.g. $2.55.) Diluted earnings per share $ (b) Compute diluted earnings per share for 2020, assuming the same facts as above, except that $960,000 of 6% convertible preferred stock was issued instead of the bonds. Each $100 preferred share is convertible into 5 shares of Cullumber common stock. (Round answer to 2 decimal places, e.g. $2.55.) Diluted earnings per share $

Answer 1

a)

Diluted EPS = net income after conversion /number of shares after conversion

= $490080/123150 shares

= $3.98 per share

Note 1: Net income after conversion = net income before conversion + interest expense after tax effect.

= $403200 + [($1810000 × 6%)×(1-0.2)]

= $403200 + [$108600×0.8]

= $403200 + $86880

= $490080

Note 2: Number of shares after conversion = shares before conversion + new shares of conversion

= 96000 + [($1810000/$1000)×15]

= 96000 + [1810×15]

= 96000 + 27150

= 123150 shares

b)

Diluted EPS = net income before preference dividend /number of shares after conversion.

= $460800/240000 shares

= $1.92 per share

Note 3 :  Net income before preference dividend = net income after preference dividend + preference dividend

= $403200 + $960000×6%

= $403200 + $57600

= $460800

ASSUMPTION : For (b), it is assumed that net income of $403200 is after preference dividend.

If it is assumed as before preference dividend then diluted EPS would be

= $403200/240000 shares

= $1.68 per share

Note 4 : Number of shares after conversion = shares before conversion + new shares of conversion

= 96000 + [$960000/$100)×15]

= 96000 + [9600×15]

= 96000 + 144000

= 240000 shares