Question

Sandhill Corporation reported net income of $550,000 in 2020 and had 900,000 common shares outstanding throughout the year. On May 1, 2020, Sandhill issued 5% convertible bonds. Each $1,000 bond is convertible into 120 common shares. Total proceeds at par amounted to $1,000,000, and was allocated to the liability and equity components under the residual value method. The liability component was measured first, at present value of the stream of interest payments plus present value of the bond maturity value, all discounted at 8% (the interest rate that applies to similar straight bonds). At the time of issuance, the liability component was recorded at $924,000. Sandhill’s tax rate is 30%.

Calculate Sandhill’s 2020 diluted earnings per share. (Round answer to 2 decimal places, e.g. 15.25.)

Answer 1

Answer:

First we will calculate basic EPS:

Basic EPS = net income / no. of  Common shares

= $ 550000 / $ 900000

= $ 0.61 (approximately)

To calculate diluted EPS we need to first calculate post tax saving on convertibel bonds and no. of equivalent common shares.

So post tax saving = $ 924000 (Principal Amount) * 8% (Interest Rate)* 8/12 (Periodicity Effect) * 70% (Tax rate effect)

= $ 34496

No. of Equivalent Common Shares = $ 1000000/ $ 1000 * 8/12 *120 = 80000

Answer. Diluted Earning Per Share = $ 550000 + $ 34496 / 900000 + 80000

= $ 584496/ 980000

= $ 0.60 (approximately)