19.8 Exercises

Exercise 19.1

Everest Corp. had 100,000 common shares outstanding on December 31, 2020. During 2021 the company:

• issued 6,000 shares on March 1
• retired 2,000 shares on July 1
• distributed a 15% stock dividend on October 1
• issued 10,000 shares on December 1

For 2021, the company reported net income of $310,000 after a loss from discontinued operations, before tax, of $35,000. The tax rate is 25%. The company issued its 2021 financial statements on February 28, 2022.

Required:

1. Calculate earnings per share for 2021.
2. Explain why Everest Corp.’s reporting of EPS is useful to company shareholders.
3. Explain the effect that a stock dividend or split has on the price-earnings ratio.

Exercise 19.2

Mame Ltd. had 475,000 common shares outstanding on January 1, 2021. During 2021 the company:

• issued 25,000 common shares on May 1
• declared and distributed a 10% stock dividend on July 1
• repurchased 15,000 of its own shares on October 1

Required:

1. Calculate the WACS outstanding as at December 31, 2021.
2. Assume that the company had a 1-for-5 reverse stock split instead of the 10% stock dividend on July 1. Calculate the WACS as at December 31, 2021.

Exercise 19.3

Calvert Corp. had 500,000 common shares outstanding on January 1, 2021. During 2021 the company:

• issued 180,000 common shares on February 1
• declared and distributed a 10% stock dividend on March 1
• repurchased 200,000 of its own shares and retired them on May 1
• issued a 3-for-1 stock split on June 1
• issued 60,000 common shares on October 1

The company’s year-end is December 31.

Required:

1. Calculate the WACS outstanding as at December 31, 2021.
2. Assume that the company had net income of $3,500,000 during 2021. In addition, it had 100,000 of 8%, $100 par, non-convertible, non-cumulative preferred shares outstanding the entire year. No dividend was declared or paid for the preferred shares in 2021. Calculate EPS using the WACS from part (a).
3. Assume now that the preferred shares were cumulative. Calculate EPS for 2021.
4. Assume the data from part (b), except that net income included a loss from discontinued operations, net of tax, of $432,000. Calculate EPS for 2021.
5. Why does the basic EPS denominator use the weighted average number of shares instead of just the ending balance of shares?

Exercise 19.4

Switzer Ltd. reported net income of $385,000 for the year ended December 31, 2020, and had 700,000 common shares outstanding throughout the fiscal year. On July 1, 2020, the company issued 3-year, 4% convertible bonds at par for $800,000. Each $1,000 bond is convertible into 100 common shares. Using the residual value method, the liability component’s present value of cash flows for interest and principal at a market rate 6% for non-convertible bonds was $757,232. The equity component was for the remainder of $42,768. Switzer Ltd.’s tax rate is 25%.

Required:

1. Calculate the 2020 earnings per share and complete the required disclosures, if any.
2. Calculate the earnings per share with required disclosures, if net income was $280,000 in 2020.

Exercise 19.5

Below is data for Hurrington Inc.:

Additional information:

All dividends were paid, and no dividends were in arrears as at December 31, 2021. Year-end is December 31.

Required:

1. Calculate EPS for 2021.
2. Assume that dividends on preferred shares were two years in arrears, and that dividends were not declared or paid in 2021. Calculate the EPS for 2021.
3. Assume that preferred shares are non-cumulative, and all dividends paid are up to date. Calculate the EPS for 2021.
4. Assume that preferred shares are non-cumulative, and dividends were not paid in 2021. Calculate the EPS for 2021.
5. Discuss the effect that a stock split would have on the company’s market price per share.
6. Discuss why the weighted average number of common shares must be adjusted for stock dividends and stock splits.

Exercise 19.6

Somos Novios Co. reported net income of $350,000 in 2021 and had 200,000 common shares outstanding throughout the year. Also outstanding throughout the year were 45,000 options for option holders to purchase common shares at $10 per share at any time. The average market price for the common shares during 2021 was $11 per share.

Required:

1. What type of capital structure does Somos Novios Co. have and why? What would be the required EPS disclosures for this company?
2. Calculate EPS for 2021, including the required disclosures.
3. Assume that the average market price for the common shares during 2021 was $9. Calculate EPS for 2021, including the required disclosures.

Exercise 19.7

Diamante Inc. purchased 20,000 call options during the year. The options give the company the right to buy back its own common shares for $10 each. The average market price was $13 per share.

Required:

1. Calculate the incremental shares outstanding for Diamante Inc.
2. Assume, instead, that Diamante Inc. wrote 20,000 put options that allow the option holder to sell common shares back to the company for $14 per share. Market price per share is $13. Calculate the incremental shares outstanding for Diamante Inc. How would the answer change if the exercise price was $12 instead of $14?
3. Assume that Diamante Inc. purchased 20,000 put options that allow the company to sell its own common shares for $11 each. Market price per share is $13. How should the options be treated when calculating diluted EPS?

Exercise 19.8

Etnik Ltd. reported net income for the year ended December 31, 2021, of $400,000 and there were 60,000 common shares outstanding during the entire year. Etnik also has two securities outstanding during 2021:

• 4%, convertible bonds, purchased at par for $100,000. Each $1,000 bond is convertible into 25 common shares.
• $20, cumulative, convertible $100 par value preferred shares; each preferred share is convertible into 10 common shares. Total paid: $50,000.

Both convertible securities were issued in 2017 and there were no conversions during 2021. Using the residual value method, the liability component’s present value of cash flows for interest and principal at a market rate 5% for non-convertible bonds was $97,277. The equity component was for the remainder of $2,723. Etnik Ltd.’s tax rate is 24%.

Required:

1. Calculate EPS, including required disclosures, for 2021.
2. Assume that Etnik Ltd. also reported a discontinued operations gain before tax of $20,000. Calculate EPS, including required disclosures for 2021.

Exercise 19.9

Renato Inc. has the following information available as at December 31, 2021:

Additional information:

Options and preferred shares were outstanding throughout all of 2021.

Required:

Calculate and disclose earnings per share for 2021. No dividends were in arrears and preferred dividends were paid in 2021. For simplicity, assume that the number of shares for the convertible bonds have already been adjusted for the stock dividend and ignore the requirement to record the debt and equity components of the bonds separately.