Beruflich Dokumente
Kultur Dokumente
Problem
◦ P1 part 4(exercising warrants)
Suggested homework problems for Chapter 16
Quiz 1 has 10 questions these HW problems cover all the material for that quiz
1. JE| exercising employee stock options
2. JE| issuing warrant
3. JE| exercising warrant
4. Compensation expense timing or amount for stock options
5. Diluted EPS calculation/convertible preferred
6. Diluted EPS calculation/convertible bond
7. Basic EPS calculation/preferred dividends
8. Weighted average number of shares calculation/stock splits
9. CPA exam question on above topics
10. CPA exam question on above topics
Convertible Preferred Stock: Concepts
Convertible preferred stock is equity on the B/S, unless it is redeemable preferred stock.
◦ If it is redeemable then it is debt.
Stock warrants are issued by the company they are redeemed for stock. (the company
issues stock for the warrant + cash)
Total Value is
Proportional Method: Example
Total proceeds from Allocate to Warrants:
the bond issue:
$10,100 [given] $400/$10,200 FMV
[times]
$10,100 [issue]
$9,800/$10,200 FMV
X $9,704 $10,000 - 9,704 = 296
$10,100 [issue] Discount on Bond Payable
Proportional Method: Example
Journal entries:
Incremental Method: Example
Example:
o Bonds, with a par value of $10,000 and detachable warrants, are sold at 10,100.
o Market price of warrants, $300.
o Market price of bonds without warrants, not determinable.
o On January 14th when the stock is trading for $34 per share, 1,000 of the stock rights are exercised.
What is the Journal entry to record this transaction?
Stock Compensation Plans
These plans provide employee incentives and may be:
1. Stock option plans:
2. Stock appreciation rights
3. Performance plans
Stock Option Plans: Accounting Issues
What is the value of the compensation?
When, if at all, should it be recognized?
◦ the fair value method
Stock Options: Important Dates
Grant Vesting Exercise Expiration
date date date date
Vesting
Measuring Compensation Expense
Fair value method (required method):
Compensation expense is:
o the fair value of the options on grant date that are expected to vest.
> The compensation expense is calculated using the fair value method.
The service period is usually the period between the grant date
and the vesting date.
Y Corp. Example - this problem has 6 parts
1. Company issues 100,000 stock holders rights. 10 rights needed to buy one share of stock.
Rights entitle holders to buy shares at $32 within 30 days.
◦ No entry needed
Number of shares?
Y Corp. Example
Cash received from exercised warrants?
Journal entry?
Y Corp. Example
5. On December 31st 2017 the firm grants options to purchase 5,000 shares of common stock. On that
date the shares are trading for $31 per share and the strike price of the options is $30 per share. The
options vest over the next calendar year.
On date of grant the options are worth $10 each.
Journal entry on December 31st 2018 (after 1 year) to record compensation expense related to the
options
Y Corp. Example
6. In 2019, 4,000 options are exercised and 1,000 expire
How much cash is paid?
◦ Options expire because they do not vest (employee not allowed to exercise them)
Z Corp. Example
2016 Firm adopts employee stock option plan: JE
◦ No entry needed
January 2, 2017 Options Granted for services rendered in 2017 and 2018.
◦ 42,000 options granted – 22,000 for 2017 and 20,000 for 2018
The first 22,000 options expire in 2018 and the second expire in 2019.
◦ Each option has a fair value of $3 and a strike price of $8
◦
20,000 options vest over 2018. Recognize compensation expense December 31st , 2018
◦ 20,000 * $3 per option = $60,000
Z Corp. Example
On December 31st , 2019 20,000 options exercised
How much Cash?
Value of Options
o Reduction in EPS results from conversion of other securities into common stock.
o Shareholders want to know the extent of reduction in EPS, if dilution takes place.
EPS
EPS measures entity performance over the reporting period.
Disclosure requirements
◦ Basic EPS in all situations
◦ Diluted EPS when capital structure includes potentially dilutive securities
◦ Must be presented on face of the income statement for both
◦ Numerator (Income) is increased by the after tax interest that would be saved if converted
Basic EPS
◦ Numerator
◦ Denominator
◦ Basic EPS?
If converted example 1 - preferred
If preferred stock is converted then 2 effects
◦ More shares of common (200 shares preferred X 20)
◦ No preferred dividends ($100)
Diluted EPS
◦ Numerator
◦ Denominator
◦ Diluted EPS?
If converted example 1 - Bonds
JJ company has 1,000 shares of common stock, 200, $1000 5% convertible
bonds. The firm has $14,000 of net income and a 40% tax rate. Each bond is
convertible into 50 shares of common stock
Basic EPS
◦ Numerator
◦ Denominator
◦ Basic EPS?
If converted example 1 - Bonds
If the bonds were converted at beginning of the year
◦ New shares issued
◦ No interest paid to bond holders
Basic EPS
◦ Numerator/ What would change in net income be?
Less interest expense/more taxable income
More tax expense
Higher NI
◦ Denominator/what would change in shares be?
200 bonds
◦ Diluted EPS?
How to calculate dilution – Treasury stock method
Options and Warrants
◦ Denominator (shares) is increased by the new shares that would be created
◦ Denominator (shares) is decreased by the number of shares that can be repurchased
with the strike price.
Diluted EPS
◦ Number of new shares issued if options exercised
◦ Proceeds from strike price
◦ Number of shares repurchased
◦ Net new shares
◦ Diluted EPS
Is the security dilutive?
Divide numerator effect by denominator effect.
If this ratio is less than basic EPS the security is dilutive
Example suppose tax rate is 40%
Suppose X company has Basic EPS of $2.00 per share
The firms also has convertible bonds with a face value of 1,000,000 and an interest rate of 5%.
b. anti-dilutive: Income increases by 30,000 denominator increases by 10,000. If we used this security is would increase EPS.
Diluted EPS = [2,000,000 + 30,000]/[1,000,000 + 10,000] = 2.01
The securities are anti-dilutive so it is not used for diluted EPS
Diluted EPS example from text book
H has net income = 360,000 and 100,000 average shares outstanding. Common stock sold at an
average market price of $15 during the period. Also outstanding were 15,000 warrants that
could be exercised to purchase one share of common stock at $10.
a. Are the warrants dilutive?
◦ Denominator effect
◦ Ratio =
Compressive example –
diluted EPS some securities anti-dilutive
Three Securities Options, Bonds, Convertible preferred
◦ Preferred: 30,000, $100 par 6% convertible into 3 shares of common stock each.
How much will income available to common go up if these are converted?
Denominator effect
Ratio =
Compressive example –
diluted EPS some securities anti-dilutive
Diluted EPS
NumeratorDenominator Dilutive?
Basic 1,020,000 600,000
Options 0 10,000
Convertible bonds 96,000 80,000
Preferred 180,000 90,000
Basic EPS
Basic EPS
Diluted EPS
◦ Numerator 1,200,000 – 180,000
◦ Denominator 600,000
What if dilative securities are not outstanding the whole year?
If potentially dilative securities are not outstanding for the entire year, then numerator and
denominator effects are time weighted.
◦
◦ Actual conversion takes place, then newly issued shares will be outstanding from their date of
issuance and will be included in calculation the numerator effect and denominator affect for
time before conversion took place will be calculated.