In 2019, Carla Enterprises issued, at par, 60 $1,000, 8% bonds, each convertible into 100 shares of common stock. Carla had revenues of $14,700 and expenses other than interest and taxes of $6,900 for 2020. (Assume that the tax rate is 20%.) Throughout 2020, 2,400 shares of common stock were outstanding; none of the bonds were converted or redeemed. Compute diluted earnings per share for 2020.

Diluted earnings per share for 2020. is 93 cents

Explanation:

Diluted Earnings per share shows the future position of the Earnings per shareholders once the potential shareholders begin exercising their rights.

Potential Shareholders exists due to Financial Instruments that might be converted into ordinary shares. Examples are Convertible Bonds, Options, Convertible Preference shares.

Step 1 Calculate Basic Earnings Per Share

Basic Earnings Per Share = Earnings Attributable to Ordinary Shareholders / Weighted Average Number of Ordinary Shares in Issue during the period.

Profits attributable to Ordinary Shareholders :

Earnings  ( $14,700 - $6,900)                                                     $7,800

Less After tax Interest on Bonds (60×$1,000×8%×80%)         ( $3,840)

Profits attributable to Ordinary Shareholders                           $ 3960

Weighted Average Number of Ordinary Shares

Common stock  outstanding                                                       2,400 shares

Basic Earnings Per Share = $ 3960/ 2,400

                                            = 165 cents

Step 2 Calculate Diluted Earnings Per Share

Diluted Earnings Per Share = Adjasted Basic Earnings per Share Earnings/ Adjasted  Number of Ordinary Shares

Adjusted Basic Earnings per Share Earnings

Profits attributable to Ordinary Shareholders                           $ 3960

Add Savings on Interest (60×$1,000×8%×80%)                        $3,840

Adjusted Basic Earnings per Share Earnings                          $7,800

Adjusted  Number of Ordinary Shares

Common stock  outstanding                                                       2,400 shares

Add 60× 100 shares of Convertible Bonds                                6,000 shares

Adjusted  Number of Ordinary Shares                                    8,400 shares

Diluted Earnings Per Share =  $7,800/8,400 shares

                                                = 93 cents

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