Final answer:
ABC Company's basic EPS is calculated as $2.02 per share, and the diluted EPS, after accounting for the effect of convertible bonds, is slightly higher at $2.03 per share.
Step-by-step explanation:
To calculate the basic EPS for ABC Company, we divide the net income by the weighted average number of common shares outstanding. For ABC's basic EPS, the calculation is:
Basic EPS = Net Income / Weighted Average Shares Outstanding
= $2,125,000 / 1,050,000
= $2.02 per share
To calculate diluted EPS, we must consider the conversion of dilutive securities, which in this case are the convertible bonds. If all the convertible bonds are converted, the company would issue an additional 37,500 shares (2,500 bonds x 15 shares per bond). However, the conversion of bonds into stock means that the company does not need to pay the bond interest, which has a tax shield effect. We calculate this as follows:
Bond Interest = Face Value of Bonds x Coupon Rate
= $100 x 2,500 x 0.045
= $112,500
After tax bond interest = Bond Interest x (1 - Tax Rate)
= $112,500 x (1 - 0.30)
= $78,750
Adjusted Net Income for Diluted EPS = Net Income + After Tax Bond Interest
= $2,125,000 + $78,750
= $2,203,750
New Weighted Average Shares for Diluted EPS = Original Shares + Additional Shares from Bonds
= 1,050,000 + 37,500
= 1,087,500
Diluted EPS = Adjusted Net Income / New Weighted Average Shares
= $2,203,750 / 1,087,500
= $2.03 per share
The final answer is that ABC Company's basic EPS is $2.02 per share and the diluted EPS is $2.03 per share based on a 30% tax rate and the potential conversion of all convertible bonds into common shares.