Question

When applying the treasury stock method for diluted earnings per share, the market price of the common stock used for the repurchase is the

a. price at the end of the year.
b. average market price.
c. price at the beginning of the year.
d. none of these.

Answer 1

The treasury stock method uses the average market price of the common stock during the period for calculating diluted EPS. This provides an accurate measure of potential dilution from options and warrants that are exercised.

Step-by-step explanation:

When accounting for the potential dilution of earnings per share (EPS), the treasury stock method is applied to calculate diluted EPS. This method accounts for the effects of exercising stock options and warrants which can lead to buying back stock, potentially diluting the EPS if the stock options are in the money. In the treasury stock method, the market price used for the repurchase is the average market price of the common stock during the period. It reflects a more representative cost the company would incur to purchase its own shares, thus providing a more accurate measure of potential dilution to EPS.

For instance, if a company's PDV (present discounted value) of total profits is $51.3 million and there are 200 shares, then to find the price per share, the PDV would be divided by the number of shares. This gives the equation 51.3 million / 200 = 0.2565 million, which translates to a price per share of approximately $256,500.