mouse123

Are changes in accounting principles and extraordinary items treated similarly in accordance with U.S. Generally Accepted Accounting Principles and International Financial Reporting Standards?

Accounting principles

Extraordinary items

A) No No

B) Yes Yes

C) Yes No

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Treatment of a change in an accounting principle is similar under U.S. GAAP and IFRS. Under both standards, a change in accounting principle is made retrospectively. The treatment of extraordinary items differs between U.S. GAAP and IFRS. Under U.S. GAAP, extraordinary items are reported net of tax below income from continuing operations. IFRS does not permit firms to treat transactions as extraordinary in the income statement.

mouse123

During 2004, Covax Corp. reported net income of $2.4 million and 2 million shares of common stock. Covax paid cash dividends of $14,000 to its preferred shareholders and $30,000 to its common shareholders. In 2004, Covax issued 900, $1,000 par, 5.5 percent bonds for $900,000. Each bond is convertible to 50 shares of common stock. Assume the tax rate is 40%. Compute Covax’s basic and diluted EPS.

Basic EPS

Diluted EPS

A) $1.19 $1.18

B) $1.19 $1.22

C) $1.22 $1.22

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2004 Basic EPS:

2004 Diluted EPS:

mouse123

Selected information from Able Company’s financial activities is as follows:

• Net Income was $720,000.
• 1,000,000 shares of common stock were outstanding on January 1.
• 1,000 shares of 8%, $1,000 par value preferred shares were outstanding on January 1.
• The tax rate was 40%.
• The average market price per share for the year was $20.
• 6,000 shares of 3%, $500 par value preferred shares, convertible into common shares at a rate of 40 common shares for each preferred share, were outstanding for the entire year.

Able’s basic and diluted earnings per share (EPS) are closest to:

Basic EPS

Diluted EPS

A) $0.55 $0.52

B) $0.55 $0.55

C) $0.64 $0.64

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Able’s basic earnings per share ((Net Income − Preferred Stock Dividends) / weighted average shares outstanding) for 2004 was [($720,000 − ($500 × 6,000 × 0.03) − ($1,000 × 1,000 × 0.08)] / 1,000,000 = $0.55. If the convertible preferred were converted to common stock on January 1, 6,000 × 40 = 240,000 additional shares would have been issued. Also, dividends on the convertible preferred would not have been paid.
So diluted EPS was ($720,000 − 80,000) / (1,000,000 + 240,000) = $0.52.

mouse123

Lawson, Inc.’s net income for the year was $1,060,000 with 420,000 shares outstanding. Lawson has 2,000 shares of 8%, $1,000 par value convertible preferred stock that were outstanding the entire year. Each share of preferred is convertible into 50 shares of common stock. Lawson's diluted earnings per share are closest to:

A) $2.04.

B) $1.94.

C) $2.14.

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Lawson’s basic EPS ((net income – preferred dividends) / weighted average common shares outstanding) is ($1,060,000 – (2,000 × $1,000 × 0.08)) / 420,000 = $2.14. To calculate diluted EPS the convertible preferred shares are presumed to have been converted, the preferred dividends paid are added back to the numerator of the EPS equation, and the additional common shares are added to the denominator of the equation. Lawson’s diluted EPS is $1,060,000 / (420,000 + 100,000) = $2.04.

mouse123

For an organization with a simple capital structure, the computation of earnings per share is least likely to consider:

A) net income.

B) the weighted average number of preferred shares outstanding.

C) the weighted average number of common shares outstanding.

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The equation for Basic EPS (net income – preferred dividends / weighted average number of common shares outstanding) does not include the number of preferred shares outstanding, because the objective is to determine the earnings available to the common shareholder.

mouse123

Savannah Corp.’s financial accounts for the year ended December 31 included the following information:

• Net Income: $122,000
• Preferred Stock Dividends Paid: $35,000
• Common Stock Dividends Paid: $42,000
• Common Shares outstanding at January 1: 50,000
• 10% preferred $100 par value shares outstanding at January 1: 3,500

No stock transactions occurred during the year and all preferred stock dividends were paid. Basic earnings per share for Savannah are closest to:

A) $0.90.

B) $1.74.

C) $2.44.

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Savannah Corp.’s basic EPS ((net income – preferred dividends) / weighted average number of common shares outstanding) was (($122,000 − $35,000) / $50,000 =) $1.74.

mouse123

Oregon Corp.’s stock transactions during the year were as follows:

• January 1: 320,000 shares outstanding.
• April 1: 1-for-2 reverse stock split occurred.
• July 1: Acquisition of Smith, Inc. in exchange for issuance of 60,000 shares.
• October 1: 30,000 shares issued for cash.

What is Oregon’s weighted average number of shares outstanding?

A) 197,500.

B) 167,500.

C) 250,000.

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The January 1 balance is adjusted retroactively for the reverse stock split and 320,000 / 2 = 160,000 shares are treated as outstanding from January 1. Issuance of stock is included from the date of issuance. The weighted average shares are computed by multiplying the share amounts by the number of months the shares were outstanding, then adding these amounts and dividing the sum by 12.

January 1:	initial shares	160,000 × 12 =	1,920,000
July 1:	Smith acquisition	60,000 × 6 =	360,000
October 1:	cash issuance	30,000 × 3 =	90,000
Total:			2,370,000

Oregon’s weighted average shares = 2,370,000 / 12 = 197,500.

mouse123

Sampson Corp. had 500,000 shares of common stock outstanding at the beginning of the year.  The average market price was $20.

• On April 1, Sampson issued 100,000 shares of $1000 par value 10 percent preferred stock.
• On July 1, Sampson issued 200,000 warrants to purchase 10 shares of common stock  each at $22 per share.
• On October 1, Sampson repurchased 60,000 of common stock as treasury stock for $15 per share.

The weighted average common shares outstanding Sampson should use to compute basic earnings per share (EPS) was:

A) 515,000.

B) 600,000.

C) 485,000.

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Only the October 1 transaction affects the weighted average common shares outstanding because the April 1 transaction would not affect the number of shares outstanding and the July 1 transaction involves warrants which would not be included in the basic EPS calculation. The computation for basic EPS is [(500,000 × 12) − (60,000 × 3)] / 12 = 485,000.

mouse123

Which of the following securities would least likely be found in a simple capital structure?

A) 6%, $5000 par value putable bond.

B) 7%, $100 par value non convertible preferred.

C) 3%, $100 par value convertible preferred.

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A simple capital structure contains no potentially dilutive securities such as stock options, warrants, or convertible preferred stock.

mouse123

A complex capital structure, for purposes of determining disclosure of diluted Earnings Per Share, is distinguished from a simple capital structure by the:

A) company having issued warrants, convertible securities, or options.

B) company's use of debt to finance its operations.

C) company having preferred stock outstanding.

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A complex structure contains potentially dilutive securities such as options warrants or convertible securities. Where as simple capital structures contain no potentially dilutive securities and contains only common stock and non-convertible securities.