Number three, last sentence first.
In its December 31st income statement, what amount should Utta report as basic earnings
per share, basic?
Utta Co had the following capital structure during X2 and X3.
Preferred stock $10 par, 4% cumulative, 25,000 shares issued and outstanding for $250,000.
Common stock $5 par, 200,000 shares issued and outstanding.
Okay, Utta reported net income of 500,000 for the yearend of December 31st.
Utta paid no preferred dividends during X2 and paid 16,000 prefer during X3.
In its December 31st income statement, what amount should Utta report as basic earnings
per share?
Okay, so what's tricky here?
What's tricky here is we have preferred stock so we know that for basic net income minus
preferred, boom.
What do you know about preferred?
What we know about preferred is the following.
Let me just clean this up so we can see what's going on and read what I've written.
All right, what we know about preferred is net income minus preferred, the preferred
if they're cumulative whether declared or not for how many years?
One year only.
If they're noncumulative, only if declared.
These are cumulative, so we've got $10, 250,000 shares is 250,000.
4% of 250,000.
10% of 250 is 25.
Half of 25 is 12.5.
That's 5%, so 4% is 10,000.
Our dividend should be 10,000 for preferred.
That's how much this should be, preferred dividends, 10,000.
Okay now, net income is 500,000 but here's the trick because it says they did not pay
them.
Utta paid no dividends during the year and they paid 16,000 in X3.
They want to know in X3 how much should we deduct and we had income in X3 of 500,000.
Well here's the problem, so shares, weighted average shares.
It looks like the denominator is 200,000 but what goes up here because we've got 500, we've
got 16,000, we've got 20,000, we've got zero.
It could be five minus 10, 500 minus 16, 500 minus 20, 500 minus zero.
Which one is it?
Well what are the rules?
We paid 16, so five minus 16.
Okay but wait a sec.
When we paid 16, what does that mean?
The first 10 goes to last year.
The next, wait or do I also deduct just 6,000?
Maybe 6,000 because when I declare the dividend of 16, 10 of it goes for last year because
it's cumulative and then six goes to this year.
Okay, so it must be 500 minus six divided by two, right?
No, because what do you do?
We assume that 10 will eventually get paid.
Is it cumulative?
Yes.
What do the rules say?
If it's cumulative, you take out all 10 whether they're declared or not.
Why?
Because they're cumulative.
Eventually you're going to owe it.
If you ever declare a dividend, it goes back, you're going to owe that.
What that means is we're going to take 10 out for last year.
This year we're going to take out 10 regardless of what we pay.
Let's say we paid 16.
10 goes for last year, six goes for this year.
We still owe four.
Next year when we declare $100,000, we're going to pay four for this year and 10 for
next and so on.
The point being that I want you to see that it really affects only how much you're supposed
to pay.
Because of that, what is happening is we are going to pay 16 but we're going to deduct
10.
What is that?
500 minus 10 is 490 divided by 200.
Gives us something like $2.45.
Does everybody see that?
Nod at the computer, kiss the screen.
Got it.
Let me do it again.
They declared a dividend.
I'm sorry, they didn't declare a dividend but it's cumulative.
We're going to owe 10 and 10 and 10 and 10 and so on.
Last year we didn't pay it but we should have at least known that we document the fact,
disclose the fact that we owe 10 eventually.
It's not a liability yet because it hasn't been declared.
Once it's declared, it becomes a liability.
This year we paid 16.
The 10 goes to the cumulative.
The six goes towards this year but for earnings per share purposes we're going to take out
as if we paid all 10 because eventually it's going to get paid.
From next year's income we're going to pay money let's say, four of it's going to go
to this year.
What is it?
Consistency, 10,000.
Answer is B. Number four, if converted method of computing
earnings per shared data assumes conversion of convertible securities as of when?
What is the if converted method?
It's right here.
If converted deals with convertible bonds, convertible preferred, what does it say?
It says if convertible bonds or convertible preferred were converted we add it back in
the numerator, dividends, gross, not net of tax, bonds, net of tax in the denominator,
number of shares converted into.
You do it as of what?
As the beginning of the year or at time of issuance if later?
A, beginning of the earliest period or at time of issuance if later, true.
Number five, in determining earnings per share, interest expense, net of tax on convertible
debt that is dilutive should be what?
Well if it is entrance expense net of tax that is dilutive, what are we going to do?
Let's see, we're going to add it back here, net of tax and then the denominator you add
in the number of shares converted into.
A, it's added back to the weighted average shares.
No, we're adding in a dollar amount, the money.
Added back to net income for diluted.
Yes, how?
Net of tax which they didn't say.
Deducted, no.
Deducted from, no.
It's added back to the dollars.
All right, answer, B.