Hello everyone and welcome to the EPS, earnings per share example. Today, I am going to extend an example to cover the basic earnings per share and the dollar unit earnings per share with one complication in the diluted earnings per share. Which we have options outstanding that can be is when we have options that are outstanding. Those are called potential securities, potential that gives rise to potential common stock. In this case, we have two versions of the EPS. Basic EPS that does not take those into account and another diluted EPS which takes those into account. Let's take an example on December 31st, 2020, Universal Company had outstanding 400000, shares of common stock. On February 28th, 2021, universal issued an additional 36,000, shares of common stock. A 10% stock dividend was declared and distributed on July 1st, 2021. On September 1st, 2021, 9,000 shares were retired net income for 2021 was $900,000. During 2021, 40,000, shares of 8% cumulative preferred stock, which the pair value is 10$ were also outstanding. That gives me an indication all that information is simply a goal that is for the basic earnings per share where I calculated the weighted average number of shares. And I calculate the in the numerator, the amount of earnings that are available for the common start by taking out the preferred dividend from the netting. Now, the next paragraph is actually introducing the stock options' scenario which will give rise to a need for calculating a diluted earnings per share. At year-end there were fully vested incentive stock options outstanding for 3,0000, shares of common stock adjusted for the stock dividend. The exercise price was $18. The market price of the common stock average $20 during the year, why is that important? Let me summarize before we get started. In the diluted earnings per share under those stock options, securities, or rights, or whatever is exercisable that will give rise to potential stock. We use the treasury stock method, what is that treasury stock method? It make an assumption that those proceeds, it assumes that those proceeds that I will get from those stock options when they are assumed to be exercised are going to be used in purchasing back stock. Add the average market price of the stock, so those money those funds that will be risen, because of the exercise of those options that are assumed. We are going to assume that they are going to be exercised. I'm going to also assume that those funds will be used to buy back whatever number of shares. And the delusion comes from the difference of what you actually assume to issue versus what you assume that you would buy back. Here you go. This is the basic earnings per share and the earnings per share is simply not income minus the preferred difference and it's calculated based at 8% at the power value of the preferred stock. And here in the denominator, the way we calculated EPS in the very normal, way we calculate the weighted average, so each of those shares are weighted by the number. The number of bunch that they were outstanding during the period since the 400,000, shares were outstanding since January 1st, there's no waiting. It's 12 by 12, so it's one. The 36,000 that were issued on February 28th were actually weighted by 10 over 12. And the 9 that were acquired on September 1st, were weighted by the 4 over 12 months that they were not outstanding. Very good. Notice, also the stock this the stock adjustment has been adjusted by the stock dividend which is the 10% which is 1.1. And here is where I calculated the earnings per share easily through 1.847. Now we need to turn into the diluted earnings per share and take a look at how do we take into consideration that rather be stuck method. Let's go ahead. So in the diluted EPS, I have net income the 900,000 minus the preferred dividend 32, and again I have the whole thing in the denominator. The weighted the process of weighing those shares, and here I added only one thing. Look at this, the 30,000 minus the 27,000, those are simply the 27,000. That's basically, how many shares that I am assuming that given the exercise of the options, I will take the cash that was generated because of the exercise of those options. And buyback add the market price, the average market price, which is 20 and I will buy 27000. So dilution effect happens because the denominator has making that assumption has increased by 3,000 shares. And that's where the dilutive effect on the EPS, and that's simply when we calculate the new EPS, now it is diluted. It's less than the basic earnings per share, and now it is $18.35. And the dilution happened because of those potential shares because of the stock options are assumed that they are exercise. Notice that, when we make that assumption that they are exercised, we make the assumption that they will be exercised at the beginning of the year. That's why there's no weighting of any. It's assumed 12 or 12, because we are going to assume that the options will be exercised at the beginning of the period. This is an example to summarize that basic versus the diluted or EPS given the treasury stock method. When we assume that the proceeds of that assumed exercise of the stock options is assumed to be used in buying back start at the average market price of the stock. Hopefully, that this example illustrates the idea in details. The difference between basic earnings per share and dilute earnings per share for the case of the treasury stock method. Thank you.
