Question

On December 31, 2017, Dow Steel Corporation had 640,000 shares of common stock and 34,000 shares of 8%, noncumulative, nonconvertible preferred stock issued and outstanding. Dow issued a 4% common stock dividend on May 15 and paid cash dividends of $440,000 and $73,000 to common and preferred shareholders, respectively, on December 15, 2018.

On February 28, 2018, Dow sold 57,000 common shares. In keeping with its long-term share repurchase plan, 6,000 shares were retired on July 1. Dow's net income for the year ended December 31, 2018, was $2,300,000. 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:

On December 31, 2017, Dow Steel Corporation had 640,000 shares of common stock and 34.000 shares of 8%, noncumulative, nonconvertible preferred stock issued and outstanding. Dow issued a 4% common stock dividend on May 15 and paid cash dividends of $440,000 and $73,000 to common and preferred shareholders, respectively, on December 15, 2018. On February 28, 2018, Dow sold 57,000 common shares. In keeping with its long-term share repurchase plan, 6,000 shares were retired on July 1. Dow's net income for the year ended December 31, 2018, was $2,300,000. 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 Share Price December 31, 2016 December 31, 2017 December 31, 2018 Options Granted (adjusted for the stock dividend) 11,000 6,000 9,500 $ 14 $ 23 $ 22 The market price of the common stock averaged $22 per share during 2018. Required: Compute Dow's earnings per share for the year ended December 31, 2018. (Enter your answers in thousands.) / Earnings per share Dow's basic Dow's diluted Numerator 2,227 2,227 Denominator 712 718 = = - $ $ 3.13 3.10 $

Answer 1

	Numerator	/	Denominator	=	Earning Per share
Dow's Basic	$2227	/	712	=	$3.13
Dow's diluted	$2227	/	716	=	$3.11

11000 options issued 12/31/16 with exercise price of $14.

1. Are they dilutive? Yes because the exercise price of $14 < market price of $22.

2. Proceeds received upon exercise ($14 x 11000) = $154000

3. Shares repurchased at current market price = 7000 ($154000 ÷ $22)

4. Net increase in # shares = 4000 (11000 – 7000)

6000 options issued 12/31/17 with exercise price of $23.

1. Are they dilutive? No because the exercise price $23 is not less than the market price of $22. Therefore, ignore.

9500 options issued 12/31/18 with exercise price of $22.

1. Are they dilutive? No because the exercise price of $22 is not less than the market price of $22. Therefore, ignore.

Hence Dows diluted Denominator = 712 + 4 = 716