Advanced Financial Accounting: Solutions Manual
Advanced Financial Accounting: Solutions Manual
Accounting
An IFRS® Standards Approach, 3e
Solutions Manual
Chapter 12
Earnings per Share
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.
(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.
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Solutions to Chapter 12
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
$2,584,000
*$5,000,000 x 3.6%
**$3,000,000 x 1.2%
Note (a)
Note (b):
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Diluted earnings per share = adjusted net profit attributable to ordinary shareholders*
adjusted weighted average number of shares
(2) Basic earnings per share (20x4) = Net profit attributable to ordinary shareholders
Weighted average number of shares
= $2,500,000 - $240,000*
6,166,667**
= 36.65 cents
*$5,000,000 x 0.048
Diluted earnings per share (20x4) = Net profit attributable to ordinary shareholders
Adjusted weighted average number of shares
= $2,500,000
7,416,667
= 33.71 cents
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Note: In the 20x5 financial statements, the comparative 20x4 earnings per share will be adjusted for
the bonus issue as follows:
Problem 12.2
Diluted earnings per share = Adjusted net profit attributable to ordinary shareholders*
Adjusted weighted average number of shares
$5,399,123
Note (a):
IAS 32 requires the convertible bond to be separated into debt and equity components as follows:
PV of principal $7,472,582
$8,315,054
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).
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Calculation of weighted average number of shares for diluted earnings per share:
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.)
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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.
= $1.90/$1.60
Ex-Rights price:
= 46.44 cents
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= 23.22 cents
Problem 12.4
22,566,667
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The convertible preference shares are dilutive as the incremental earnings is less than the basic earnings
per share.
Problem 12.5
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Note (c):
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Note (e)
Profit = 3.44
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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.
Note (f)
Note (g):
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Problem 12.6
At 1.1.20x3 20,000,000
= -12 cents
= - 1.76 cents
$2,800,000
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:
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= 9.57 cents
Effect Effect
= -$3,000,000/30,875,000
= -9.72 cents
= -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.
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Note (a): Calculation of debt component of convertible bond according to IAS 32:
= $ 380,770 + $9,239,000
= $9,619,770
= $380,230
*see below
Carrying
Cash interest Effective Amortisation Unamortised value
No of shares outstanding/issued
At 1.1.20x4 25,000,000
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[[Note: The contingently issuable shares are included in the weighted number of shares as the necessary
condition has been satisfied.]
Cum-rights price $2
= $68,000,000/40,000,000
= $1.70
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Less excess fair value paid to induce conversion (183,824) Note (d)
Note (d)
*5,000,000 x 500/1000 x 1.25 (bonus issue) x 2/1.7 (bonus element in rights issue) x $2.50
= 8.77 cents
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
Diluted EPS (20x4) = 8.55 cents (convertible preference shares are antidilutive)
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Notes:
(h)
3,125,000
3,676,470*
2,426,470
# 3,750,000 x 4/12
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= -10.2 cents
= - 1.50 cents
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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
The reported preference dividends were $150,000 which did take into account the
dividends in arrears.
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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
Weighted
Profit attributable to ordinary average
shares shares Diluted EPS
Diluted EPS for 20x2 5,200,000 14,550,000 $0.3573
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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
Determine the Earnings per Incremental Share (EPIS) for each type of Potential Ordinary 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
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 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%
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Problem 12.9
(Parts 1, 2 and 3 are reflected on this section)
20x1
= $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.
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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
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