Question

During 2021, Farewell Inc. had 500,000 shares of common stock and 50,000 shares of 6% cumulative preferred stock outstanding. The preferred stock has a par value of $100 per share. Farewell did not declare or pay any dividends during 2021. Farewell's net income for the year ended December 31, 2021, was $2.5 million. The income tax rate is 25%. Farewell granted 10,000 stock options to its executives on January 1 of this year. Each option gives its holder the right to buy 20 shares of common stock at an exercise price of $29 per share. The options vest after one year. The market price of the common stock averaged $30 per share during 2021.

What is Farewell's diluted earnings per share for 2021, rounded to the nearest cent?
A) $3.14.
B) $4.90.
C) $4.34.
D) Cannot determine from the given information.
Blue Cab Company had 50,000 shares of common stock outstanding on January 1, 2021. On April 1, 2021, the company issued 20,000 shares of common stock. The company had outstanding fully vested incentive stock options for 5,000 shares exercisable at $10 that had not been exercised by its executives. The end-of-year market price of common stock was $13 while the average price for the year was $12. The company reported net income in the amount of $269,915 for 2021. What is the diluted earnings per share (rounded)?
A) $3.60.
B) $4.10.
C) $4.50.
D) $3.81.

Answer 1

a) c. $4.34

b) b. $4.10

Step-by-step explanation:

a) Find Farewell's diluted earnings per share for 2021.

Use the formula below:

Diluted EPS = (Net income after tax - preferred dividend) / diluted common stock

`= (2,500,000 - (50,000*100*0.06))/(500,000+(200,000 - ((29*10,000)/30)))`

`= (2,500,000 - 300,000)/(500,000 + (200,000 - 193,333))`

`= (220,000)/(506,667)`

`= 4.34`

Diluted EPS = $4.34 per share

b) stock options = 5,000

Value in current shares = 500,000/12 = $4,167

Diluted shares = 5000 - 4167 = 833

Use the formula below to find the diluted earnings per share:

Diluted EPS = Net income/share outstanding

`= (269,915)/(50,000 +(20,000-5,000) + 833))`

`= (269,915)/(50,000 + 15,000 + 833)`

`= (269,915)/(65,833)`

`= 4.10`

Diluted EPS = $4.10 per share