Advanced Financial Accounting: Solutions Manual

Advanced Financial
Accounting
An IFRS® Standards Approach, 3e
Pearl Tan, Chu Yeong Lim and Ee Wen Kuah
Solutions Manual
Chapter 12
Earnings per Share
Copyright © 2016 by McGraw-Hill Education (Asia)

Advanced Financial Accounting (Tan, Lim and Kuah)
Solutions to Chapter 12
CHAPTER 12
CONCEPT QUESTIONS
1 Earnings per share is significant to investors for two main reasons. First, by itself, it is a
widely used performance measure. This ratio provides investor with an indication of the
earnings per unit of share that they owned. Indirectly, it also provides an indication of the
maximum possible dividend they could expect to receive. Second, earnings per share is an
important input for another widely used investment ratio – the price-earnings ratio.
2 Basic earnings per share is based a historical ratio as it is based on actual reported earnings.
Diluted earnings per share is a hypothetical ratio in that it includes potentially dilutive
securities and assumes full conversion of these securities. Whether the potentially dilutive
securities will be converted depends on future events.
3 Basic earnings per share decreased in 20x5 while diluted earnings per share increased. Both
the numerator and the denominator increased in 20x5 for the basic earnings per share.
However, the increase in the denominator is proportionately greater than the numerator.
The possible reason is that in 20x5 there has been partial conversion of some potentially
dilutive securities which increased the denominator. In the case of the diluted earnings per
share, the numerator increased but the denominator remained constant. This is because the
potentially dilutive securities were assumed to be fully converted to ordinary shares in both
20x4 and 20x5.
4 The rationale for reporting diluted earnings per share is to provide forward looking
information on the dilutive effect of potential ordinary shares. The information is
considered relevant as it enhances comparability of a firm’s performance over time. It also
allows investors to assess the potential impact on share price as a result of the potential
dilution.
5 The limitations of earnings per share are:
(a) It is based on historical accounting numbers. If the historical accounting numbers

are suspect, for example, because of errors or earnings management, then the
earnings per share figure may not be a reliable indicator of performance.
(b) It does not facilitate comparability across firms.
(c) Unlike ratios like return on equity or return on asset, it does not take into account
changes in the capital base. As a result, it does not provide an accurate measure of
the return on capital.
6 If a dilutive security is anti-dilutive, it is excluded from the calculation of diluted earnings

per share. One reason is that it is not consistent with the objective of reporting diluted
earnings per share. Another reason is that if the potential ordinary share is anti-dilutive, it
is unlikely to be converted or exercised.
2
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PROBLEMS
Problem 12.1
(Note: It is assumed that the ordinary share has a par value of $1 per share. Capital structure refers
only to the share capital and long-term debt; it is differentiated from equity structure, which includes
retained earnings and capital reserves.)
Basic earnings per share (20x5) = Net profit attributable to ordinary shareholders
Weighted average number of shares
= $2,584,400/9,437,500 = 27.38 cents
Net profit attributable to ordinary shareholders:
Net profit before preference dividends $2,800,000
Preference dividends (1.1.20x5 to 30.9.20x5)* (180,000)
Preference dividends (1.10.20x5)** (36,000)
$2,584,000
*$5,000,000 x 3.6%
**$3,000,000 x 1.2%
Calculation of weighted average number of shares:
From 1 January to 30 September (Note a) 9,250,000 x 9/12 = 6,937,500
From 1 October to 31 December 10,000,000 x 3/12 = 2,500,000
Weighted number of shares 9,437,500
Note (a)
Total number of ordinary shares at 1 October 10,000,000
Less number of shares issued on conversion of pref. Shares (750,000) Note( b)
Number of ordinary shares before conversion* 9,250,000
*including bonus issue
Note (b):
Conversion of preference shares:
60% = 300,000 preference shares (after conversion)
40% = 200,000 preference shares converted
3
Conversion ratio = (5/2)
Number of ordinary shares issued = 200,000 x 5/2 = 500,000 shares
Adjustment for bonus issue (1 for 2) 250,000
Total number of ordinary shares issued on conversion 750,000
Diluted earnings per share = adjusted net profit attributable to ordinary shareholders*
adjusted weighted average number of shares
= $2,800,000/11,125,000 = 25.17 cents

* net profit attributable to ordinary shareholders + preference share dividends
Adjusted weighted average number of shares:
Number of ord. shares before conversion of preference shares 9,250,000

Add: assumed conversion of preference shares [750,000* x 5/2 ] 1,875,000
11,125,000
*Adjusted for bonus issue: 500,000 preference shares x 3/2
(2) Basic earnings per share (20x4) = Net profit attributable to ordinary shareholders
= $2,500,000 - $240,000*
6,166,667**
= 36.65 cents
*$5,000,000 x 0.048
** Number of shares after bonus issue = 9,250,000

Bonus issue (9,250,000/3) (3,083,333)
No. of shares before bonus 6,166,667
Check: 6,166,667 + 3,083,333 (1 for 2 bonus issue) = 9,250,000
Diluted earnings per share (20x4) = Net profit attributable to ordinary shareholders
Adjusted weighted average number of shares
= $2,500,000 – 0 (nil preference dividends)

6,166,667 + 1,250,000
= $2,500,000
7,416,667
= 33.71 cents
4
Note: In the 20x5 financial statements, the comparative 20x4 earnings per share will be adjusted for
the bonus issue as follows:
Basic EPS (20x4 comparative) = 36.65 cents x 2/3 = 24.43 cents

(Alternatively: $2,260,000/9,250,000)
Diluted EPS (20x4 comparative) = 33.71 cents x 2/3 = 22.47 cents

(Alternatively: $2,500,000/(9,250,000 + 1,875,000)
Problem 12.2
Basic earnings per share (20x3) = $5,000,000/15,000,000 = 33.33 cents
From 1.1.20x3 to 30.6.20x3 12,000,000 shares x 6/12 = 6,000,000
From 1.7.20x3 to 31.12.20x3 18,000,000 shares x 6/12 = 9,000,000
Average weighted number of shares 15,000,000
Diluted earnings per share = Adjusted net profit attributable to ordinary shareholders*
Adjusted weighted average number of shares
Calculation of adjusted net profit:
Net profit as reported $5,000,000
Add: effective interest (net of tax) 399,123 (Note a)
$5,399,123
Note (a):
IAS 32 requires the convertible bond to be separated into debt and equity components as follows:
Debt component: PV of interest (6%, 5 years) $ 842473
PV of principal $7,472,582
$8,315,054
Effective interest for 20x3 = $8,315,054 x 0.06 = $498,903
Less tax @ 20% (99,780)
Interest (net of tax) saved $399,123
Note: The convertible bond is dilutive as the incremental earnings per share is
$399,123/5,000,000 = 7.98 cents (lower than basic earnings per share).
5
Calculation of weighted average number of shares for diluted earnings per share:
Weighted average number of shares for basic EPS 15,000,000
Add: ordinary shares issued at nil on assumed exercise of option 187,500
(2,000,000 - 2,000,000/1.60) x 3/12
Add: ordinary shares issued on assumed conversion of bond 5,000,000
Average weighted number of shares 20,187,500
Diluted earnings per share = $5,399,123/20,187,500 = 26.74 cents
Problem 12.3
(Note: It is assumed that the ordinary share has a par value of $1 per share and the convertible preference
shares have a par value of $5. Capital structure refers only to the share capital and long-term debt; it is
differentiated from equity structure which includes retained earnings and capital reserves.)
(1) The capital structure of Kops Ltd at 1 January 20x3 is as follows:
Movement of ordinary share capital during 20x3 and 20x4
20 million ordinary shares @ $1 each $20,000,000
This is obtained by working backwards from 31 December 20x4 as follows:
No. of ord. Shares at 31.12.20x4 70,000
Less shares issued on 1.10.20x4 (8,000)
No. of ord. Shares at 30.9.20x4 62,000
Less ord. shares issued on conversion of pref. Shares (2,000)
No. of shares at 30.6.20x4 60,000
Less bonus issue on 1.4.20x4 (30,000)
No. of shares at 1.1.20x4 30,000
Less ord. shares issued under rights issue on 1.7.20x3 (10,000)
No. of ord. shares at 1.120x3 20,000
6
(2) Calculation of basic earnings per share
Basic EPS = Net profit attributable to ordinary shareholders

Net profit for 20x3 $12,800,000

less preference dividends ( 320,000)*
Profit attributable to ordinary shareholders $12,480,000
* 4,000,000 x $5 x 6.4% x 3/12
Calculation of weighted average number of shares during 1997.

Date shares in bonus element time weighted number
issue in rights issue weightage of shares
1.1.20x3 20,000 1.9/1.6* 6/12 11,875
1.7.20x3 30,000 6/12 15,000
26,875
Note: The number of shares outstanding at 1.1.20x3 is multiplied by the bonus issue element (bonus
element is applied retroactively) and weighted by a time factor of 6/12 because the share capital was
enlarged by the rights issue from 1.7.20x3. The share capital from 1.7.20x3 to end of the year already
incorporated the bonus issue element. The 30,000 shares from 1.7.20x3 to 31.12.20x3 has to be time
weighted.
* Bonus element = cum-rights price/theoretical ex-rights price:
= $1.90/$1.60
Ex-Rights price:
2,000 ord shares @ $1.9 = $3,800
1,000 rights shares @ $1 1,000
3,000 ord shares $4,800
Ex-rights price = $4,800/3,000 = $1.60
EPS (20x3) = $12,480,000/26,875,000
= 46.44 cents
7
Calculation of profit attributable to ordinary shareholders for 20x4:
Net profit after tax $14,500,000
Less preference dividends:

First two quarters* (640,000)
Next two quarters** (480,000)
Profit attributable to ordinary shares $13,380,000
* On 4 million preference shares

** On 3 million preference shares
Shares in Bonus Time Weighted number

Date issue issue weightage of shares (000)
1.1.20x4 30,000 2 3/12 15,000
1.4.20x4 60,000 3/12 15,000
1.7.20x4 62,000 3/12 15,500
1.10.20x4 70,000 3/12 17,500

63,000
Earnings per share (20x4) = $13,380,000/63,000,000 = 21.24 cents
Comparative 20x3 earnings per share in 20x4 financial statements:
Net profit/adjusted weighted average no. Of shares = $12,480,000/(26,875,000 x 2)
= 23.22 cents
Problem 12.4
Calculation of basic earnings per share:
Net profit before preference dividends $8,000,000

Less preference dividends (1,200,000 x 0.68) (816,000)
Net profit attributable to ordinary shares $7,184,000
Basic earnings per share = $7,184,000/20,000,000 = 35.92 cents
Calculation of diluted earnings per share:
Calculation of average weighted number of shares:
Number of ordinary shares 20,000,000
Add: ordinary shares to be issued on assumed exercise of warrants
(1,000,000 – [5,000,000/6]) 166,667
Add: ordinary shares to be issued on assumed conversion of pref. Shares 2,400,000
22,566,667
8
Diluted earnings per share = $8,000,000/22,566,667 = 35.45 cents
Test of anti-dilution for convertible preference shares :
Incremental earnings per share = $816,000/2,400,000 = 34 cents.
The convertible preference shares are dilutive as the incremental earnings is less than the basic earnings
per share.
Problem 12.5
Basic earnings per share (20x1 – first half)
Profit from continuing operations $7,000,000

less preference share dividends (0.08 x 6,000,000) (480,000)
Weighted average number of shares 30,000,000
Basic EPS (first half) = $6,520,000/30,000,000 = 21.73 cents
Basic earnings per share (20x1 – second half)

less preference share dividends (0.08 x 1,000,000) (80,000)
$2,720,000
Loss from discontinued operation ($1,500,000)
Weighted average number of shares (Note a) 36,250,000
Basic EPS (second half):

Profit from continuing operations ($2,720,000/36,250,000) = 7.5 cents
Loss from discontinued operations (-$1,500,000/ 36,250,000) = (4.14) cents
Profit 3.37*
*Due to rounding difference of .01
Note (a): Calculation of weighted average number of shares:
Number of shares outstanding (1 Jul to 31 Dec) 30,000,000

Conversion of preference shares 5,000,000
Exercise of warrants (2,500,000 x 3/6) 1,250,000
9
Basic EPS (20x1 – full year)

less preference share dividends (560,000)
$9,240,000
Weighted average number of shares (Note b) 33,125,000
Basic EPS (full year):

Loss from discontinued operations (-$1,500,000/ 33,125,000) = (4.53) cents
Profit 23.36
Note (b): Calculation of weighted average number of shares:

Number of shares outstanding (12/12) 30,000,000
Conversion of preference shares (6/12) 2,500,000
Exercise of warrants (2,500,000 x 3/12) 625,000
Diluted earnings per share (20x1 – first half)

less preference share dividends 0*
*no dividend as all preference shares are assumed to be converted at beginning of year.

Plus incremental shares on:
Assumed conversion of preference shares 6,000,000
Assumed exercise of warrants (Note c) 348,837
Adjusted weighted average number of shares 36,348,837
Diluted EPS (first half) = $7,000,000/36,348,837 = 19.26 cents
Note (c):
Proceeds from exercise: $4 x 5,000,000 = $20,000,000
Proceeds /Average price of $4.30 = 4,651,163 shares
No. of shares deemed issued a nil = 5,000,000 – 4,651,163 = 348,837
10
Diluted earnings per share (20x1 – second half)

Less preference share dividends (0)
$2,800,000
Weighted average number of shares (Note d) 37,852,837
Note (d): Calculation of weighted average number of shares

Plus incremental shares on:
Assumed conversion of pref. Shares 1,000,000
Assumed exercise of warrants ( Note e) 602,837
Adjusted weighted average number of shares 37,852,837
Note (e)
Portion not converted assumed to be converted on 1 July 20x1
Proceeds from exercise: $4 x 2500000 = $10,000,000
Proceeds /average price of $4.80 = 2,083,333 shares
No. of shares deemed issued at nil 416,667 [2,500,000 – 2,083,333]
Portion converted on 1 October assumed to be converted at 1 July:
Proceeds from exercise: $4 x 2,500,000 = $10,000,000
Proceeds/average price of $4.70 = 2,127,660 shares
No. of shares deemed issued at nil 372,340
372,340 x 3/6 = 186,170 shares
Total incremental shares = 416,667 + 186,170 = 602,837 shares
Diluted EPS (second half):
Profit from continuing operations ($2,800,000/37,852,837) (cents) = 7.40
Loss from discontinued operations (-$1,500,000/37,852,837) (cents) = (3.96)
Profit = 3.44
11
Note: The incremental shares from assumed conversions are taken into account when calculating the
diluted EPS for the loss from discontinued operations though they are anti-dilutive. The reason is that
the control number is profit from continuing operations and the figure is a profit.
Diluted earnings per share (20x1 – full year)

Less preference share dividends (0)
$9,800,000
Weighted average number of shares (Note f) 37,159,421
Diluted earnings per share (20x1):

Loss from discontinued operations (-$1,500,000/37,159,421) = (4.04) cents
Profit 22.33 cents
Note (f)
Number of shares at 1 Jan 20x1 30,000,000

Conversion of pref. Shares 6,000,000
Conversion of warrants :
Actual conversion of warrants: 2,500,000 x 3/12 625,000
Assumed conversion (Note g) 534,421
Total 37,159,421
Note (g):
2,500,000 warrants exercised on 1 October now assumed to be exercised at 1 Jan 20x1
Proceeds from exercise: 2,500,000 x $4 = $10,000,000

Proceeds/average market price (of $4.50) from 1 Jan to 1 Oct = 2,222,222 shares
Number of shares deemed issued at nil:
(2,500,000 – 2,222,222) x 9/12 = 277,798 x 9/12 208,334
2,500,000 warrants assumed to be exercised on 1 Jan 20x1
Proceeds from exercise: 2,500,000 x $4 = $10,000,000

Proceeds/average market price of $4.60 for full year = 2,173,913 shares
Number of shares deemed issued at nil (2,500,000 – 2,173,913) = 326,087
Total 534,421
12
Problem 12.6
Basic EPS = Net profit attributable to ordinary shareholders

Net profit after tax $2,800,000

Less pref dividend (240,000) [4.8% x $5,000,000]
Net profit attributable to ordinary shareholders $2,560,000
Number of shares outstanding/issued
At 1.1.20x3 20,000,000
At 1.4.20x3 - 1 for 4 bonus issue 5,000,000
Basic EPS (continuing operation) = 2,560,000/25,000,000

= 10.24 cents
Basic EPS (discontinued operation) = -$3,000,000/ 25,000,000
= -12 cents
Net Loss = [-$200,000 – $240,000]/25,000,000
= - 1.76 cents
Calculation of diluted EPS (20x3)
Net profit for basic EPS $2,560,000
Add: Preference dividends 240,000
$2,800,000
Add effective interest on convertible bond (net of tax) 153,916*
2,953,916
*Under IAS 32, the convertible bond has to be separated into debt and equity components and the
discount on the bond is amortised using the effective interest rate method. The effective interest is
calculated as follows:
$9,619,770 x 4% x 6/12 x (1 - 0.2) = $153,916 [see Note (a) below].
13
Weighted average number of shares for diluted EPS:
Add: assumed conversion of convertible preference shares after
adjusting for bonus issue effect [5,000,000 x 500/1000 x 5/4] 3,125,000
Add: assumed conversion of convertible bonds [10,000,000 x 550/1000 x 6/12] 2,750,000
Weighted average number of shares for diluted EPS 30,875,000
Diluted earnings per share (continuing operation) = $2,953,916/30,875,000
= 9.57 cents
An alternative approach is as follows:
Numerator Denominator EPS
Effect Effect
As per basic EPS 2,560,000 25000000 10.24 cents
Add convertible bonds 153,916(a) 2,750000
2,713,916 27,750,000 9.78 cents
Add Pref shares 240,000 3,125,000
2,953,916 30,875,000 9.57 cents
Diluted earnings per share (discontinued operation)
= -$3,000,000/30,875,000
= -9.72 cents
Diluted earnings per share (net) = ($2,953,916 - $3,000,000)/30,875,000
= -0.15 cents
Note: Although the potential ordinary shares are antidilutive (as they reduce the net loss per share)
diluted earnings per share is reported for all three components because the control number is profit
from continuing operation.
14
Note (a): Calculation of debt component of convertible bond according to IAS 32:
Present value of debt component = $100,000 x 3.8077 + $10,000,000 x 0.9239
= $ 380,770 + $9,239,000
= $9,619,770
Discount on bond = $10,000,000 - $9,619,770
= $380,230
Effective interest* ($192,395 x [1– 0.2]) = $153,916
*see below
Carrying
Cash interest Effective Amortisation Unamortised value
Date Interest expense Discount of bond
1.7.20x3 380,230 9,619,770
31.12.20x3 100,000 192,395 92,395 287,835 9,712,165
30.6.20x4 100,000 194,243 94,243 193,591 9,806,409
31.12.20x4 100,000 196,128 96,128 97,463 9,902,537
30.6.20x5 100,000 197,463 97,463 0 10,000,000
Earnings per share – 20x4
Movement in share capital during the year:
No of shares outstanding/issued
At 1.1.20x4 25,000,000
At 1.4.20x4 3-for5 rights 15,000,000
1.7.20x4 partial conversion of bond 2,200,000 (Note c)
1.9.20x4 induced conversion of PS 3,750,000 (Note d)
Number of shares outstanding at 31.12.20x4 45,950,000
15
Weighted average number of shares:
No. of shares Bonus issue in RI Fraction of year Weighted No of shares
1.1.20x4 25,000,000 2/1.7 (Note b) 3/12 7,352,941
1.4.20x4 40,000,000 3/12 10,000,000
1.7.20x4 42,200,000 2/12 7,033,333
1.9.20x4 45,950,000 4/12 15,316,667
Add contingently issuable shares (adjusted for bonus issue):

Entitlement under agreement 100,000
Adjustment for bonus issue in 20x3 (1 for four) 25,000
Adjustment for bonus element in rights issue in 20x4 22,059 147,059
(125,000 000 x [2/1.7 – 1]) 39,850,000
[[Note: The contingently issuable shares are included in the weighted number of shares as the necessary
condition has been satisfied.]
Note (b): Bonus element in rights issue:
Cum-rights price $2
Subscription price $1.20
Theoretical ex-right price = (2 x 25,000000 + 1.2 x15,000,000)/40,000,000
= $68,000,000/40,000,000
= $1.70
Bonus adjustment factor = 2/1.7 = 1.176

(Bonus element is 2/1.7 – 1 = .176)
Note (c): partial conversion of bond
$10,000,000 x 0.4 x 550/1000 = 2,200,000
Note (d): induced conversion of preference shares
5,000,000 x 750/1,000 = 3,750,000
16
Net profit after tax (20x4) $3,800,000
Less Preference dividends (120,000) [$5000000 x 2.4%]
Less excess fair value paid to induce conversion (183,824) Note (d)
Net profit attributable to ordinary shareholders $ 3,496,176
Note (d)
Fair value of shares to induce conversion $2.50 x 3,750,000 = $9,375,000
Fair value of shares under original conversion terms = $9,191,176*
Excess fair value $183,824
*5,000,000 x 500/1000 x 1.25 (bonus issue) x 2/1.7 (bonus element in rights issue) x $2.50
Basic EPS (20x4) = $3,496,176/ 39,850,000
= 8.77 cents
Diluted earnings per share 20x4
The incremental earnings per share in respect of convertible preference shares (7.68 cents) is higher
than the basic earnings per share. The preference shares are anti-dilutive. This is shown in the following
table.
Numerator Denominator
Effect Effect EPS
As per basic EPS 3,496,176 39,850,000 8.77 cents
Add: share options ________ 636,364 (e)
3,496,176 40,486,364 8.64 cents
Add convertible bonds 249,536(f) 3,300000 (g)
3,745,712 43,786,364 8.55 cents
Add Pref shares 303,824 2,426,470(h)
4,049,536 46,212,834 8.76 cents
Diluted EPS (20x4) = 8.55 cents (convertible preference shares are antidilutive)
17
Notes:
(e) Shares deemed issued at nil under share options
No of potential ordinary shares 2,000,000 @ $1.50 = $3,000,000
No. of shares deemed issued at nil [2,000,000 - $3,000,000/$2.20]= 636,364
(f) Interest on bond:

$10,000,000 x 0.02 x 6/12 $ 100,000
$ 6,000,000 x 0.02 x 6/12 60,000
Amortisation expense ($94,243 + $57,677) 151,920
$311,920
Tax @ 20% ( 62,384)
Effective interest net of tax $249,536
(g) Assumed conversion of convertible bonds
Assumption: all convertible bonds converted at 1.1.20x4
Number of shares issued on assumed 100% conversion 5,500,000

[10,000,000 x 550/1000]
Less number of shares issued on actual conversion during year -2,200,000
Additional number of shares 3,300,000
(h)
Number of ordinary shares based on original conversion ratio 2,500,000

[5,000,000 x 500/1,000]
Add: Adjustment for 1-for-4 bonus issue 625,000
3,125,000
Add: Adjustment for bonus issue element in rights issue
[3,125,000 x (2/1.7 – 1)] 551,470
3,676,470*
Less number of ordinary shares already included in basic EPS (1,250,000)#
2,426,470
* Alternatively, it can be obtained as 3,125,000 x 2/1.7
# 3,750,000 x 4/12
18
(2) 20x3’s comparative earnings per share in 20x4’s financial statements:
Basic EPS (adjusted for bonus element in rights issue)
Basic EPS (continuing operation) = 2,560,000/(25,000,000 x 2/1.7)

= 8.7 cents
Basic EPS (discontinued operation) = -$3,000,000/ (25,000,000 x 2/1.7)
= -10.2 cents
Net Loss = [-$200,000 – $240,000]/(25,000,000 x 2/1.7)
= - 1.50 cents
Comparative diluted earnings per share :
Continuing operation = $2,953,916/(30,875,000 x 2/1.7)

= 8.13 cents
Discontinued operation = -$3,000,000/(30,875,000 x 2/1.7)

= -8.26 cents
Diluted loss per share (net) = -0.13 cents
19
Problem 12.7
Time
Basic EPS for 20x2 Increase in Add bonus Cumulative Period weight Weighted
Date Item Ordinary shares issue balance outstanding average shares
1/1/20x2 Balance at start 5,000,000 5,000,000 10,000,000 1 Jan – 30 April 4/12 3,333,333
1/5/20x2 Share repurchase (1,200,000) (1,200,000) 7,600,000 1 May - 1 Oct 6/12 3,800,000
1/7/20x2 Bonus issues 3,800,000
1/11/20x2 Issue of new shares 900,000 8,500,000 1 Nov - 31 Dec 2/12 1,416,667
31/12/20x2 Balance at year-end 8,500,000 8,550,000
Cumulative preference dividends

= 1.5% x 3 x $4,000,000
= $180,000
The reported preference dividends were $150,000 which did take into account the
dividends in arrears.
Profit attributable to ordinary shareholders

= Net profit after tax less preference share dividends
= $5,200,000 - $180,000
= $5,020,000
Profit attributable to ordinary
Weighted average shares shareholders Basic EPS
Basic EPS for 20x2 8,550,000 5,020,000 $0.5871
20
Increase in
ordinary shares
from assumed
Convertible preference shares Units conversion
Issued on 1 April 20x2 4,000,000 8,000,000 0.75 6,000,000
Diluted EPS for 20x2
Number of shares for denominator in Diluted EPS for 20x2

Number of shares in basic EPS 8,550,000
Incremental number of shares on assumed conversion of preference shares 6,000,000
14,550,000
Weighted
Profit attributable to ordinary average
shares shares Diluted EPS
Diluted EPS for 20x2 5,200,000 14,550,000 $0.3573
21
Problem 12.8
Time
Basic EPS for 20X2 Increase in Add shares Cumulative Period weight Weighted
Date Item ordinary shares from split balance outstanding average shares
1/1/20X2 Balance at start 2,000,000 2,000,000 4,000,000 1 Jan - 31 Mar 1/4 1,000,000
1/4/20X2 Issue of new shares 400,000 400,000 4,800,000 1 Apr - 1 Oct 1/2 2,400,000
1/8/20X2 Share split 2,400,000
1/10/20X2 Conversion of pref shares 450,000 5,250,000 1 Oct - 31 Dec 1/4 1,312,500
31/12/20X2 Balance at year-end 5,250,000 4,712,500
Profit attributable to OS WA shares Basic EPS

Basic EPS for 20x2 $6,846,750 4,712,500 $1.4529
Determine the Earnings per Incremental Share (EPIS) for each type of Potential Ordinary Shares
(a) Convertible Preference Shares
Incremental shares arising from the assumed conversion of the preference shares as at 1 Jan 20X2
(1) Preference shares that were converted on 1 Oct 20X2: 450,000
Assumed converted for period from 1 Jan 20X2 to 30 Sept 20X2 337,500 (450000*9/12)
(2) Preference shares that were unconverted as at 31 Dec 20X2 500,000
Assumed converted for period from 1 Jan 20X2 to 31 Dec 20X2 550,000 (550,000 x 12/12)
Incremental shares arising from assumed conversion as at 1 Jan 20X2 887,500
Impact on profit attributable to ordinary shareholders from assumed conversion:

22
Avoidance of dividends declared on preference shares during 20X2 53,250
Earnings per Incremental Share 0.0600 53250/887500
(b) Stock Options
Incremental shares arising from the assumed exercise of options as at 1 April 20X2 (date of issue)
No. of ordinary shares issued if outstanding options are exercised: 600,000
Equivalent number of shares at fair market value 520,000 (600000*2.6/3)
Incremental number of shares issued for no consideration 80,000
Incremental number of shares as at 1 April 20X2 (time-weight by 3/4) 60,000 (80000* 9/12)
Impact on profit attributable to ordinary shareholders from assumed exercise 0

Earnings Per Incremental Share 0 (0/60000)
(3) Convertible Bonds

Incremental shares arising from assumed conversion from convertible bonds as at 1 July 20X2 (date of issue)
Convertible bonds outstanding as at 1 July 20X2 6,000,000
Number of ordinary shares issued if the convertible bonds were converted on 1 Jul 20X2 3,000,000 5000000*1/2
Impact on profit attributable to ordinary shareholders from assumed conversion as at 1 July 20X2
Interest rate 5%
Savings of interest expense (after-tax) on convertible bonds: 120,000 5%*6000000*1/2*80%
Earnings Per Incremental Share 0.040
23
Ranking by EPIS (EPIS) EPIS

(1) Stock Options 0.00 Most dilutive
(2) Convertible Bonds 0.040
(3) Convertible Preference Shares 0.0600 Least dilutive
Determination of Diluted EPS

Weighted
Profit average DEPS
number of shares
Basic EPS 6,846,750 4,712,500 1.452891
Include effects of assumed exercise of options 0 60,000
Aggregate DEPS 6,846,750 4,772,500 1.434625 Dilutive
Include effects of assumed conversion of convertible bonds 120,000 3,000,000
Include effects of assumed conversion of preference shares 53,250 887,500
Reported DEPS (20X2) 0.810624

24
Problem 12.9
(Parts 1, 2 and 3 are reflected on this section)
20x1
Net profit after tax 7,000,000

Preference dividends (30,000) 1/2*6%*1000000
Net profit attributable to ordinary shareholders 6,970,000
20x1
(Part 1 and 2) Restated 20x1 (Part 3) 20x2
Basic EPS 3.49 (Note 1) 1.74 (Note 3) 1.452891

Diluted EPS 3.11 (Note 2) 1.56 (Note 4) 0.810624
Note 1: Basic EPS (20x1) = $6,970,000/2,000,000 = $3.49
Note 2: Diluted EPS (20x1) = $7,000,000 / (2,000,000 + 1,000,000 x ½ x 1/2)
= $7,000,000/2,250,000
= $3.11
2 preference shares were convertible to one ordinary share during 20x1. Hence, 1,000,000 convertible preference shares are convertible to 500,000 ordinary
shares. Since the convertible preference shares were issued on 1 July 20x1, the assumed converted shares are multiplied by ½.
After the share split, the exchange ratio was one to one.
Note 3: $3.49/2 = $1.74 (retrospective adjustment for share split)
Note 4: $3.11/2 = $1.56 (retrospective adjustment for share split)
25
Part 4
Sapphire Ltd has fallen in profitability when the 20x2 EPS figures are compared with the restated comparatives. The comparison should be made
against the restated comparatives and not the previously reported EPS figures. The share splits resulted in new shares issued without consideration.
Even though the profit figures have remained stable, the relative performance on a per share basis has deteriorated.
P12.10
Calculate weighted average number of ordinary shares

Time-weighting Number of shares
Shares in issue 2,000,000

Less: Treasury shares (500,000) x 12/12 (500,000)
1,500,000
Shares repurchased on 31 March 20x6 (50,000)x 9/12 (37,500)
Shares repurchased on 30 September (60,000)x 3/12 (15,000)
20x6
Calculate basic earnings per share

Basic EPS = Profit attributable to ordinary shareholders
Weighted average number of ordinary
shares
= 6,500,000 =4.49
1,447,500
26

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Advanced Financial

Pearl Tan, Chu Yeong Lim and Ee Wen Kuah

Copyright © 2016 by McGraw-Hill Education (Asia)

5 The limitations of earnings per share are:

(a) It is based on historical accounting numbers. If the historical accounting numbers

(b) It does not facilitate comparability across firms.

6 If a dilutive security is anti-dilutive, it is excluded from the calculation of diluted earnings

= $2,584,400/9,437,500 = 27.38 cents

Net profit attributable to ordinary shareholders:

Net profit before preference dividends $2,800,000

Preference dividends (1.1.20x5 to 30.9.20x5)* (180,000)

Preference dividends (1.10.20x5)** (36,000)

Calculation of weighted average number of shares:

From 1 January to 30 September (Note a) 9,250,000 x 9/12 = 6,937,500

From 1 October to 31 December 10,000,000 x 3/12 = 2,500,000

Weighted number of shares 9,437,500

Total number of ordinary shares at 1 October 10,000,000

Less number of shares issued on conversion of pref. Shares (750,000) Note( b)

Number of ordinary shares before conversion* 9,250,000

*including bonus issue

Conversion of preference shares:

60% = 300,000 preference shares (after conversion)

40% = 200,000 preference shares converted

Conversion ratio = (5/2)

Number of ordinary shares issued = 200,000 x 5/2 = 500,000 shares

Adjustment for bonus issue (1 for 2) 250,000

Total number of ordinary shares issued on conversion 750,000

= $2,800,000/11,125,000 = 25.17 cents

Adjusted weighted average number of shares:

Number of ord. shares before conversion of preference shares 9,250,000

*Adjusted for bonus issue: 500,000 preference shares x 3/2

** Number of shares after bonus issue = 9,250,000

Check: 6,166,667 + 3,083,333 (1 for 2 bonus issue) = 9,250,000

= $2,500,000 – 0 (nil preference dividends)

Basic EPS (20x4 comparative) = 36.65 cents x 2/3 = 24.43 cents

Diluted EPS (20x4 comparative) = 33.71 cents x 2/3 = 22.47 cents

Basic earnings per share (20x3) = $5,000,000/15,000,000 = 33.33 cents

Calculation of weighted average number of shares:

From 1.1.20x3 to 30.6.20x3 12,000,000 shares x 6/12 = 6,000,000

From 1.7.20x3 to 31.12.20x3 18,000,000 shares x 6/12 = 9,000,000

Average weighted number of shares 15,000,000

Calculation of adjusted net profit:

Net profit as reported $5,000,000

Add: effective interest (net of tax) 399,123 (Note a)

Debt component: PV of interest (6%, 5 years) $ 842473

Effective interest for 20x3 = $8,315,054 x 0.06 = $498,903

Less tax @ 20% (99,780)

Interest (net of tax) saved $399,123

Weighted average number of shares for basic EPS 15,000,000

Add: ordinary shares issued at nil on assumed exercise of option 187,500

(2,000,000 - 2,000,000/1.60) x 3/12

Add: ordinary shares issued on assumed conversion of bond 5,000,000

Average weighted number of shares 20,187,500

Diluted earnings per share = $5,399,123/20,187,500 = 26.74 cents

(1) The capital structure of Kops Ltd at 1 January 20x3 is as follows:

Movement of ordinary share capital during 20x3 and 20x4

20 million ordinary shares @ $1 each $20,000,000

This is obtained by working backwards from 31 December 20x4 as follows:

No. of ord. Shares at 31.12.20x4 70,000