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16-1
Prepared by
Coby Harmon
University of California, Santa Barbara
Intermediate
Accounting
16-2
Intermediate Accounting
14th Edition
16
Dilutive Securities and
Earnings per Share
Kieso, Weygandt, and Warfield
16-3
1. Describe te accounting for te issuance, conversion, and
retirement of convertible securities.
!. "#plain te accounting for convertible preferred stoc$.
%. Contrast te accounting for stoc$ &arrants and for stoc$ &arrants
issued &it oter securities.
'. Describe te accounting for stoc$ compensation plans under
generally accepted accounting principles.
(. Discuss te controversy involving stoc$ compensation plans.
). Compute earnings per sare in a simple capital structure.
*. Compute earnings per sare in a comple# capital structure.
Learning b!ectives
Learning b!ectives
Learning b!ectives
Learning b!ectives
16-"
Debt and e+uity
Convertible debt
Convertible preferred stoc$
Stoc$ &arrants
Accounting for compensation
Dilutive Securities and
Compensation #lans
Computing Earnings #er
Share
Simple capital structure
Comple# capital structure
Dilutive Securities and Earnings #er Share
16-$
Debt and E%uity
Debt and E%uity
Debt and E%uity
Debt and E%uity
Stoc& ptions Stoc& ptions
Convertible Convertible
Securities Securities
#re'erred Stoc& #re'erred Stoc&
Sould companies report tese instruments as a
liability or e%uity.
16-6
,at te older-s option.
Benefit of a Bond ,guaranteed interest and principal.
Privilege of "#canging it for Stoc$
Bonds &ic can be canged into oter corporate
securities are called convertible bonds(
)
*ccounting 'or Convertible Debt
LO 1 Describe the accounting for the issuance, conversion,
and retirement of convertible securities.
16-+
Desire to raise e+uity capital &itout giving up more
o&nersip control tan necessary.
/btain common stoc$ financing at ceaper rates.
0&o main reasons corporations issue convertibles1
16-,
*t -ime o' .ssuance
Convertible bonds recorded as straigt debt issue, &it
any discount or premium amorti2ed over te term of te
debt.
16-/
0E16-11 Arcer issued 3',444,444 par value, *5 convertible
bonds at 66 for cas. If te bonds ad not included te
conversion feature, tey &ould ave sold for 6(.
Cas %,6)4,444
Bonds payable ',444,444
2ournal entry at date o' issuance1
Discount on bonds payable '4,444
,3',444,444 # 665 7 3%,6)4,444.
16-13
*t -ime o' Conversion
Companies use te boo& value method &en converting
bonds.
8en te debt older converts te debt to e+uity, te
issuing company recogni2es no gain or loss upon
conversion.
16-11
0E16-21 9uen Corp. as outstanding !,444, 31,444 bonds,
eac convertible into (4 sares of 314 par value common
stoc$. 0e bonds are converted on December %1, !41!, &en
te unamorti2ed discount is 3%4,444 and te mar$et price of
te stoc$ is 3!1 per sare.
Bonds payable !,444,444
Common stoc$ ,!,444 # (4 # 314. 1,444,444
2ournal entry at conversion1
Discount on bonds payable %4,444
Paid:in capital in e#cess of par 6*4,444
16-12
Issuer &ises to encourage prompt conversion.
Issuer offers additional consideration, called a

;s&eetener.<
S&eetener is an e#pense of te period.

.nduced Conversion
16-13
0E16-21 9uen Corp. as outstanding !,444, 31,444 bonds,
eac convertible into (4 sares of 314 par value common
stoc$. Assume 9uen &anted to reduce its annual interest cost
and agreed to pay te bond olders 3*4,444 to convert.
Common stoc$ ,!,444 # (4 # 314. 1,444,444
2ournal entry at conversion1
Discount on bonds payable %4,444
Additional paid:in capital 6*4,444
Debt conversion e4pense +35333
Cash +35333
16-1"
=ecogni2ed same as retiring debt tat is not

convertible.
Difference bet&een te ac+uisition price and carrying

amount sould be reported as gain or loss in te
income statement.
6etirement o' Convertible Debt
16-1$
Convertible preference sares are reported as part of

e%uity.
8en preference sares are converted or

repurchased, tere is no gain or loss recogni2ed.
Convertible #re'erred Stoc&
LO 2 Explain the accounting for convertible preferred stock.
Convertible pre'erence shares include an option for te
older to convert preference sares into a fi#ed number of
ordinary sares.
16-16
0E16-31 >all Inc. issued !,444 sares of 314 par value
common stoc$ upon conversion of 1,444 sares of 3(4 par
value preferred stoc$. 0e preferred stoc$ &as originally
issued at 3)4 per sare. 0e common stoc$ is trading at 3!)
per sare at te time of conversion.
Preferred stoc$ (4,444
Common stoc$ ,!,444 # 314 par. !4,444
2ournal entry to record conversion1
Paid:in capital ? Preferred stoc$ 14,444
Paid:in capital ? Common stoc$ '4,444
LO 2 Explain the accounting for convertible preferred stock.
16-1+
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
7arrants are certificates entitling te older to ac+uire sares
at a certain price &itin a stated period.
@ormally arises under tree situations1
1. 0o ma$e te security more attractive.
!. "#isting stoc$olders ave a preemptive right to
purcase common stoc$ first.
%. 0o e#ecutives and employees as a form of
compensation.
LO 3 ontrast the accounting for stock !arrants and for
stock !arrants issued !ith other securities.
16-1,
Stoc& 7arrants .ssued 8ith ther Securities
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Basically long:term options to buy common stoc$ at a fi#ed price.
>enerally life of &arrants is five years, occasionally ten years.
Proceeds allocated bet&een te t&o securities.
Allocation based on fair mar$et values.
0&o metods of allocation1

,1. proportional metod
,!. incremental metod
16-1/
#roportional 9ethod
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Determine1
1. value of te bonds &itout te &arrants, and
!. value of te &arrants.
0e proportional method allocates te proceeds using
te proportion of te t&o amounts, based on fair values.
16-23
0E16-"1 Aargolf Corp. issued !,444, 31,444 bonds at 141. "ac
bond &as issued &it one detacable stoc$ &arrant. After
issuance, te bonds &ere selling in te mar$et at 6B, and te
&arrants ad a mar$et value of 3'4. Use te proportional metod
to record te issuance of te bonds and &arrants.
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
LO 3
16-21
Cas !,4!4,444
Discount on bonds payable (6,!1)
Paid:in capital ? Stoc$ &arrants *6,!1)
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
0E16-"1 Aargolf Corp. issued !,444, 31,444 bonds at 141. "ac
bond &as issued &it one detacable stoc$ &arrant. After
issuance, te bonds &ere selling in te mar$et at 6B, and te
&arrants ad a mar$et value of 3'4. Use te proportional metod
to record te issuance of te bonds and &arrants.
16-22
.ncremental 9ethod
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
8ere a company cannot determine te fair value of
eiter te &arrants or te bonds.
Use te security for &ic fair value can determined.
Allocate te remainder of te purcase price to te

security for &ic it does not $no& fair value.
16-23
0E16-$1 AcCarty Inc. issued !,444, 31,444 bonds at 141. "ac
bond &as issued &it one detacable stoc$ &arrant. After issuance,
te bonds &ere selling in te mar$et at 6B. 0e mar$et price of te
&arrants, &itout te bonds, cannot be determined. Use te
incremental metod to record te issuance of te bonds and
&arrants.
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
16-2"
Cas !,4!4,444
Discount on bonds payable '4,444
Paid:in capital ? Stoc$ &arrants )4,444
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
0E16-$1 AcCarty Inc. issued !,444, 31,444 bonds at 141. "ac
bond &as issued &it one detacable stoc$ &arrant. After issuance,
te bonds &ere selling in te mar$et at 6B. 0e mar$et price of te
&arrants, &itout te bonds, cannot be determined. Use te
incremental metod to record te issuance of te bonds and
&arrants.
16-2$
Conceptual :uestions
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Detachable 8arrants involves
two securities,
a debt security,
a &arrant to purcase common stoc$.

;ondetachable 8arrants
no allocation of proceeds bet&een te bonds and te

&arrants,
companies record te entire proceeds as debt.

16-26
6ights to Subscribe to *dditional Shares
Share 6ights : e#isting stoc$olders ave te rigt
,preemptive privilege. to purcase ne&ly issued sares in
proportion to teir oldings.
Price is normally less tan current mar$et value.
Companies ma$e only a memorandum entry.

Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
16-2+
Share ption : gives $ey employees option to purcase
ordinary sares at a given price over e#tended period of time.
"ffective compensation programs are ones tat1
1. base compensation on performance
!. motivate employees,
%. elp retain e#ecutives and recruit ne& talent,
'. ma#imi2e employee-s after:ta# benefit, and
(. use performance criteria over &ic employee as control.
Share Compensation #lans
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
16-2,
-he 9a!or 6eporting .ssue
CASB guidelines re+uire companies to recogni2e
compensation cost using te fair:value metod.
Under te 'air-value method, companies use acceptable
option:pricing models to value te options at te date of
grant.
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
Stoc& 7arrants
16-2/
-8o main accounting issues1
1. Do& to determine compensation e#pense.
!. /ver &at periods to allocate compensation
e#pense.
LO " Describe the accounting for stock compensation plans
under generall# accepted accounting principles.
*ccounting 'or Stoc& Compensation
Share ption #lans
16-33
Determining E4pense
Compensation e#pense based on te fair value of

te options e#pected to vest on te date te options
are granted to te employee,s. ,i.e., te grant date..
*llocating Compensation E4pense
/ver te periods in &ic employees perform te

serviceEte service period.
16-31
.llustration1 /n @ovember 1, !411, te sareolders of Cen
Company approve a plan tat grants te company-s five
e#ecutives options to purcase !,444 sares eac of te
company-s 31 par value common stoc$. 0e company grants te
options on Fanuary 1, !41!. 0e e#ecutives may e#ercise te
options at any time &itin te ne#t 14 years. 0e option price per
sare is 3)4, and te mar$et price of te sares at te date of
grant is 3*4 per sare. Under te fair value metod, te company
computes total compensation e#pense by applying an acceptable
fair value option:pricing model. 0e fair value option:pricing model
determines Cen-s total compensation e#pense to be 3!!4,444.
16-32
.llustration1 Assume tat te e#pected period of benefit is t&o
years, starting &it te grant date. Cen &ould record te
transactions related to tis option contract as follo&s.
Compensation "#pense 114,444
Paid:in capital ? Stoc$ /ptions 114,444
Dec( 315 2312
,3!!4,444 G !.
* *
* *
Compensation "#pense 114,444
Paid:in capital : Stoc$ /ptions 114,444
Dec( 315 2313
16-33
Exercise. If Cen-s e#ecutives e#ercise !,444 of te 14,444
options ,!4 percent of te options. on Fune 1, !41( ,tree years
and five monts after date of grant., te company records te
follo&ing Hournal entry.
Cas ,!,444 # 3)4. 1!4,444
Paid:in Capital : Stoc$ /ptions '',444
Common Stoc$ ,!,444 # 314. !,444
Paid:in Capital in "#cess of Par 1)!,444
2une 15 231$
16-3"
Expiration. If Cen-s e#ecutives fail to e#ercise te remaining
stoc$ options before teir e#piration date, te company records
te follo&ing at te date of e#piration.
Paid:in Capital : Stoc$ /ptions 1*),444
Paid:in Capital ? "#pired Stoc$ /ptions 1*),444
2an( 15 2322
,3!!4,444 # B45. * *
* *
16-3$
$d%ustment. /nce te total compensation is measured at te
date of grant, can it be canged in future periodsI
If an employee forfeits a stoc$ option because te employee
fails to satisfy a service re+uirement ,e.g., leaves employment.,
te company sould adHust te estimate of compensation
e#pense recorded in te current period ,as a cange in
16-36
6estricted Stoc&
0ransfer sares of stoc$ to employees, subHect to an
agreement tat te sares cannot be sold, transferred, or
pledged until vesting occurs.
9a!or *dvantages1
1. @ever becomes completely &ortless.
!. >enerally results in less dilution to e#isting stoc$olders.
%. Better aligns employee incentives &it company incentives.
16-3+
.llustration1 /n Fanuary 1, !41!, /gden Company issues 1,444
sares of restricted stoc& to its C"/, Cristie De>eorge. /gden-s
stoc$ as a fair value of 3!4 per sare on Fanuary 1, !41!.
Additional information is as follo&s.
1. 0e service period related to te restricted stoc$ is five years.
!. Jesting occurs if De>eorge stays &it te company for a five:
year period.
%. 0e par value of te stoc$ is 31 per sare.
/gden ma$es te follo&ing entry on te grant date ,Fanuary 1,
!41!..
16-3,
Unearned compensation !4,444
Common stoc$ ,1,444 # 31. 1,444
Paid:in capital in e#cess of par ,1,444 # 316. 16,444
<nearned Compensation represents the cost o' services yet to be
per'ormed5 8hich is not an asset( Unearned Compensation is reported
as a component of stoc$olders- e+uity in te balance seet.
.llustration1 /gden ma$es te follo&ing entry on te grant date
,Fanuary 1, !41!..
16-3/
Compensation e#pense ',444
Unearned compensation
',444
/gden records compensation e#pense of 3',444 for eac of te
ne#t four years ,!41%, !41', !41(, and !41)..
.llustration1 =ecord te Hournal entry at December %1, !41!,
/gden records compensation e#pense.
16-"3
Common stoc$ 1,444
Paid:in capital in e#cess of par : common 16,444
Compensation e#pense ,3',444 # !. B,444
Unearned compensation 1!,444
.llustration1 Assume tat De>eorge leaves on Cebruary %, !41'
,before any e#pense as been recorded during !41'.. 0e entry to
record tis forfeiture is as follo&s
16-"1
Employee Stoc&-#urchase #lans
>enerally permit all employees to purchase stoc& at a

discounted price for a sort period of time.
Plans are considered compensatory unless tey satisfy all

tree conditions presented belo&.
1. Substantially all full:time employees may participate on
an e+uitable basis.
!. 0e discount from mar$et is small.
%. 0e plan offers no substantive option feature.
16-"2
Disclosure o' Compensation #lans
Company &it one or more sare:based payment arrangements
must disclose1
1. @ature and e#tent of suc arrangements.
!. 0e effect on te income statement of compensation cost.
%. 0e metod of estimating te fair value of te goods or
services received, or te fair value of te e+uity instruments
granted ,or offered to grant..
'. 0e cas flo& effects.
16-"3
Debate over Stoc& ption *ccounting
0e CASB faced considerable opposition &en it proposed te fair
value metod for accounting for sare options. 0is is not
surprising, given tat te fair value metod results in greater
compensation costs relative to te intrinsic:value model.
0ransparent financial reportingEincluding recognition of stoc$:
based e#penseEsould not be critici2ed because companies &ill
report lo&er income.
If &e &rite standards to acieve some social, economic, or public
policy goal, financial reporting loses its credibility.
LO & Discuss the controvers# involving stock compensation plans.
16-""
Earnings per share indicates te income earned by eac sare of
common stoc$.
Companies report earnings per sare only for common stoc$.
8en te income statement contains intermediate

components of income ,suc as discontinued operations or
e#traordinary items., companies sould disclose earnings per
sare for eac component.
Computing Earnings #er Share
.llustration 16-+
16-"$
LO ' ompute earnings per share in a simple capital structure.
Simple Structure::/nly common stoc$K no potentially

dilutive securities.
Comple4 Structure::Potentially dilutive securities are

present.
=Dilutive> means te ability to influence te "PS in a

do&n&ard direction.
E#S - Simple Capital Structure
16-"6
#re'erred Stoc& Dividends
Subtracts te current:year preferred stoc$ dividend from
net income to arrive at income available to common
stoc$olders.
.llustration 16-,
Preferred dividends are subtracted on cumulative preferred
stoc$, &eter declared or not.
16-"+
7eighted-*verage ;umber o' Shares
Companies must &eigt te sares by te fraction of te
period tey are outstanding.
8en stoc$ dividends or sare splits occur, companies
need to restate te sares outstanding before te sare
dividend or split.
16-",
.llustration1 Cran$s Inc. as te follo&ing canges in its
common stoc$ during te period.
.llustration 16-/
Compute te &eigted:average number of sares outstanding
for Cran$ Inc.
16-"/
LO '
.llustration
16-/
.llustration 16-13
16-$3
LO ( ompute earnings per share in a complex capital structure.
Comple4 Capital Structure e#ists &en a business as
convertible securities,
options, &arrants, or oter rigts

tat upon conversion or e#ercise could dilute
earnings per sare.
Company reports bot basic and diluted earnings per
sare.
E#S - Comple4 Capital Structure
16-$1
Diluted "PS includes te effect of all potential dilutive common
sares tat &ere outstanding during te period.
Companies &ill not report diluted "PS if te securities in teir capital
structure are antidilutive.
.llustration 16-1+
16-$2
Diluted E#S ? Convertible Securities
Aeasure te dilutive effects of potential conversion on
"PS using te i'-converted method.
0is metod for a convertible bond assumes1
,1. te conversion at te beginning of te period ,or at te
time of issuance of te security, if issued during te
period., and
,!. te elimination of related interest, net of ta#.
16-$3
E16-22 @Convertible 0ondsA1 In !41! Bura$a "nterprises issued,
at par, *(, 31,444, B5 bonds, eac convertible into 144 sares of
common stoc$. Bura$a ad revenues of 31*,(44 and e#penses
oter tan interest and ta#es of 3B,'44 for !41%. ,Assume tat te
ta# rate is '45.. 0rougout !41%, !,444 sares of common
stoc$ &ere outstandingK none of te bonds &as converted or
redeemed.
.nstructions
,a. Compute diluted earnings per sare for !41%.
,b. Assume same facts as tose for Part ,a., e#cept te *(
bonds &ere issued on September 1, !41% ,rater tan in
!41!., and none ave been converted or redeemed.
16-$"
E16-22 ,a. Compute diluted earnings per sare for !41%.
Calculation o' ;et .ncome
=evenues 31*,(44
"#penses B,'44
Bond interest e#pense ,*( # 31,444 # B5. ),444
Income before ta#es %,144
Income ta# e#pense ,'45. 1,!'4
@et income 3 1,B)4
16-$$
8en calculating Diluted "PS, begin &it 0asis "PS.
;et income B C15,63
7eighted average shares B 25333
B
B
C(/3
C(/3
0asic E#S
16-$6
C15,63
25333
B
B C($+
C($+
Diluted E#S
)
)
C65333 @1 - ("3A
+5$33
Basic "PS
7 .6%
C$5"63
/5$33
B
B
"ffect on "PS 7 .'B
)
)
16-$+
Calculation o' ;et .ncome
E16-22 ,b. Assume bonds &ere issued on Sept. 1, !41% .
16-$,
E16-22 ,b. Assume bonds &ere issued on Sept. 1, !41% .
C"5263
25333
B
B C1(21
C1(21
Diluted E#S
C25333 @1 - ("3A
+5$33 4 "D12 yr(
C$5"63
"5$33
B
B
"ffect on "PS 7 .'B
Basic "PS
7 !.1%
)
)
)
)
16-$/
#16-, @Eariation-Convertible #re'erred Stoc&A1 Prior to !41!,
Bar$ley Company issued '4,444 sares of )5 convertible,
cumulative preferred stoc$, 3144 par value. "ac sare is
convertible into ( sares of common stoc$. @et income for !41!
&as 31,!44,444. 0ere &ere )44,444 common sares
outstanding during !41!. 0ere &ere no canges during !41! in
te number of common or preferred sares outstanding.
.nstructions
,a. Compute diluted earnings per sare for !41!.
16-63
#16-, ,a. Compute diluted earnings per sare for !41!.
;et income C152335333 ? #'d( Div( C2"35333F
7eighted average shares B 6335333
B
B
C1(63
C1(63
0asic E#S
L L '4,444 sares # 3144 par # )5 7 3!'4,444 dividend '4,444 sares # 3144 par # )5 7 3!'4,444 dividend
16-61
6335333
B
B
C1($3
C1($3
Diluted E#S
C2"35333
Basic "PS 7 1.)4
B
B
"ffect on
"PS 7 1.!4
#16-, ,a. Compute diluted earnings per sare for !41!.
C152335333 ? C2"35333
2335333F
C152335333
,335333
L L,'4,444 # (. ,'4,444 # (.
)
)
)
)
16-62
6335333
B
B
C1(6+
C1(6+
Diluted E#S
C2"35333
Basic "PS 7 1.)4
B
B
"ffect on
"PS 7 !.44
#16-, ,a. Compute diluted earnings per sare for !41!
assuming eac sare of preferred is convertible into % sares
of common stoc$.
C152335333 ? C2"35333
1235333F
C152335333
+235333
L L,'4,444 # %. ,'4,444 # %.
)
)
)
)
16-63
6335333
B
B
C1(6+
C1(6+
Diluted E#S
C2"35333
Basic "PS 7 1.)4
B
B
"ffect on
"PS 7 !.44
C152335333 ? C2"35333
1235333F
C152335333
+235333
L L,'4,444 # %. ,'4,444 # %.
*ntidilutive
0asic B Diluted E#S
#16-, ,a. Compute diluted earnings per sare for !41!
assuming eac sare of preferred is convertible into % sares
of common stoc$.
)
)
)
)
16-6"
Diluted E#S ? ptions and 7arrants
Aeasure te dilutive effects of potential conversion using
te treasury-stoc& method.
0is metod assumes1
,1. company e#ercises te options or &arrants at te
beginning of te year ,or date of issue if later., and
,!. tat it uses tose proceeds to purcase common
stoc$ for te treasury.
16-6$
E16-26 @E#S 8ith ptionsA1 Mambrano Company-s net income
for !41! is 3'4,444. 0e only potentially dilutive securities
outstanding &ere 1,444 options issued during !411, eac
e#ercisable for one sare at 3B. @one as been e#ercised, and
14,444 sares of common &ere outstanding during !41!. 0e
average mar$et price of te stoc$ during !41! &as 3!4.
.nstructions
,a. Compute diluted earnings per sare.
,b. Assume te 1,444 options &ere issued on /ctober 1, !41!
,rater tan in !411.. 0e average mar$et price during te
last % monts of !41! &as 3!4.
16-66
Proceeds if sares issued ,1,444 # 3B. 3B,444
Purcase price for treasury sares 3!4
Sares assumed purcased '44
Sares assumed issued 1,444
Incremental sare increase )44
E16-26 ,a. Compute diluted earnings per sare for !41!.
-reasury-Stoc& 9ethod
G
G
16-6+
E16-26 ,a. Compute diluted earnings per sare for !41!.
C"35333
135333
B
B C3(++
C3(++
Diluted E#S
)
)
633
Basic "PS
7 '.44
C"35333
135633
B
B
/ptions
)
)
16-6,
-reasury-Stoc& 9ethod
G
G
E16-26 ,b. Compute diluted earnings per sare assuming te
1,444 options &ere issued on /ctober 1, !41!.
4 4
16-6/
E16-26 ,b. Compute diluted earnings per sare assuming te
1,444 options &ere issued on /ctober 1, !41!.
C"35333
135333
B
B C3(/"
C3(/"
Diluted E#S
1$3
Basic "PS
7 '.44
C"35333
1351$3
B
B
/ptions
)
)
16-+3
Contingent .ssue *greement
Contingent sares are issued as a result of te1
1. passage of time or
!. attainment of a certain earnings or mar$et price level.
*ntidilution 6evisited
Ignore antidilutive securities in all calculations and in
computing diluted earnings per sare.
16-+1
E#S #resentation and Disclosure
A company sould so& per sare amounts for1
Income from continuing operations,
Income before e#traordinary items, and
@et income.
Per sare amounts for a discontinued operation or an
e#traordinary item sould be presented on te face of te
income statement or in te notes.
16-+2
Comple# capital structures and dual presentation of "PS re+uire te
follo&ing additional disclosures in note form.
1. Description of pertinent rigts and privileges of te various securities
outstanding.
!. A reconciliation of te numerators and denominators of te basic and
diluted per sare computations, including individual income and sare
amount effects of all securities tat affect "PS.
%. 0e effect given preferred dividends in determining income available to
common stoc$olders in computing basic "PS.
'. Securities tat could potentially dilute basic "PS in te future tat &ere
e#cluded in te computation because tey &ould be antidilutive.
(. "ffect of conversions subse+uent to year:end, but before issuing
statements.
16-+3
LO (
.llustration 16-2+
Summary o' E#S Computation
16-+"
LO (
.llustration 16-2,
Summary o' E#S
Summary o' E#S
Computation
Computation
Summary o' E#S
Summary o' E#S
Computation
Computation
16-+$
Stoc&-*ppreciation 6ights @S*6sA1
0e company gives an e#ecutive te rigt to receive

compensation e+ual to te sare appreciation.
Share appreciation is te e#cess of te mar$et price of te

stoc$ at te date of e#ercise over a pre:establised price.
0e company may pay te sare appreciation in cas, sares,

or a combination of bot.
0e accounting for stoc$:appreciation rigts depends on

&eter te company classifies te rigts as e+uity or as a
liability.
LO ) Explain the accounting for share*appreciation rights plans.
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-+6
S*6SL Share-0ased E%uity *8ards
Companies classify SA=s as e+uity a&ards if at te date of e#ercise,
te older receives sares of stoc$ from te company upon e#ercise.
Dolder receives sares in an amount e+ual to te sare:price

appreciation ,te difference bet&een te mar$et price and te
pre:establised price..
At te date of grant, te company determines a fair value for te

SA= and ten allocates tis amount to compensation e#pense
over te service period of te employees.
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-++
S*6SL Share-0ased Liability *8ards
Companies classify SA=s as liability a&ards if at te date of e#ercise,
te older receives a cas payment. Accounting1
1. Aeasure te fair value of te a&ard at te grant date and accrue
compensation over te service period.
!. =emeasure te fair value eac reporting period, until te a&ard is
settledK adHust te compensation cost eac period for canges in fair
value pro:rated for te portion of te service period completed.
%. /nce te service period is completed, determine compensation e#pense
eac subse+uent period by reporting te full cange in mar$et price as
an adHustment to compensation e#pense.
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-+,
.llustration1 American Dotels, Inc. establises a sare:
appreciation rigts plan on Fanuary 1, !41!. 0e plan entitles
e#ecutives to receive cas at te date of e#ercise for te
difference bet&een te mar$et price of te stoc$ and te pre:
establised price of 314 on 14,444 SA=s. 0e fair value of te
SA=s on December %1, !41!, is 3%, and te service period
runs for t&o years ,!41!?!41%..
Illustration 1)A:1 indicates te amount of compensation
e#pense to be recorded eac period.
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-+/
.llustration 16-*1
American Dotels records compensation e#pense in te first year as
follo&s.
Compensation "#pense 1(,444
Niability under Stoc$:Appreciation Plan 1(,444
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-,3
In !41%, &en it records negative compensation e#pense,
American &ould debit te account for 3!4,444. 0e entry to record
te negative compensation e#pense is as follo&s.
Niability under Stoc$:Appreciation Plan !4,444
Compensation "#pense !4,444
At December %1, !41', te e#ecutives receive 3(4,444. American
&ould remove te liability &it te follo&ing entry.
Niability under Stoc$:Appreciation Plan (4,444
Cas (4,444
*##E;D.H *##E;D.H 16*
*CC<;-.;I J6 S-CK-*##6EC.*-.;
6.IH-
16-,1
LO + ompute earnings per share in a complex situation.
.llustration 16-01
Balance Seet for Compreensive Illustration
*##E;D.H *##E;D.H 160
C9#6EHE;S.EE E*6;.;IS #E6 SH*6E
EH*9#LE
16-,2
Balance Seet for Compreensive Illustration
.llustration 16-01
*##E;D.H *##E;D.H 160
EH*9#LE
16-,3
.llustration 16-02
Computation of "arnings per SareESimple Capital Structure
*##E;D.H *##E;D.H 160
EH*9#LE
16-,"
Diluted Earnings #er Share
Steps 'or computing diluted earnings per share1
1. Determine, for eac dilutive security, te per sare effect
assuming e#erciseOconversion.
!. =an$ te results from step 1 from smallest to largest earnings
effect per sare.
%. Beginning &it te earnings per sare based upon te &eigted:
average of ordinary sares outstanding, recalculate earnings per
sare by adding te smallest per sare effects from step !.
Continue tis process so long as eac recalculated earnings per
sare is smaller tan te previous amount.
*##E;D.H *##E;D.H 160
EH*9#LE
16-,$
0e 'irst step is to determine a per sare effect for eac
potentially dilutive security.
Per Sare "ffect of /ptions @-reasury-Share 9ethodA, Diluted
"arnings per Sare
.llustration 16-03
*##E;D.H *##E;D.H 160
EH*9#LE
16-,6
Per Sare "ffect of B5 Bonds @.'-Converted 9ethodA, Diluted
"arnings per Sare
.llustration 16-0"
*##E;D.H *##E;D.H 160
EH*9#LE
16-,+
Per Sare "ffect of 145 Bonds @.'-Converted 9ethodA, Diluted
"arnings per Sare
.llustration 16-0$
*##E;D.H *##E;D.H 160
EH*9#LE
16-,,
Per Sare "ffect of 145 Convertible Preference Sares @.'-Converted
9ethodA, Diluted "arnings per Sare
.llustration 16-06
*##E;D.H *##E;D.H 160
EH*9#LE
16-,/
=an$ing of per Sare "ffects @Smallest to LargestA, Diluted "arnings
per Sare
.llustration 16-0+
*##E;D.H *##E;D.H 160
EH*9#LE
16-/3
0e ne4t step is to determine earnings per sare giving effect
to te ran$ing
=ecomputation of "PS Using Incremental "ffect of /ptions
.llustration 16-0,
0e effect of te options is dilutive.
*##E;D.H *##E;D.H 160
EH*9#LE
16-/1
to te ran$ing
=ecomputation of "PS Using Incremental "ffect of B5 Convertible
Bonds
.llustration 16-0/
0e effect of te B5 convertible bonds is dilutive.
*##E;D.H *##E;D.H 160
EH*9#LE
16-/2
to te ran$ing
=ecomputation of "PS Using Incremental "ffect of 145 Convertible
Bonds
.llustration 16-013
0e effect of te 145 convertible bonds is dilutive.
*##E;D.H *##E;D.H 160
EH*9#LE
16-/3
to te ran$ing
=ecomputation of "PS Using Incremental "ffect of 145 Convertible
Preference Sares
.llustration 16-011
0e effect of te 145 convertible preference sares is ;- dilutive.
*##E;D.H *##E;D.H 160
EH*9#LE
16-/"
Jinally, 8ebster Corporation-s disclosure of earnings per
sare on its income statement.
.llustration 16-012
0e effect of te 145 convertible preference sares is ;- dilutive.
*##E;D.H *##E;D.H 160
EH*9#LE
16-/$
Assume tat
Barton
Company
provides te
follo&ing
information.
.llustration 16-013
Basic and
Diluted "PS
.llustration 16-01"
*##E;D.H *##E;D.H 160
EH*9#LE
16-/6
6ELEE*;- J*C-S
A significant difference bet&een IC=S and >AAP is te accounting

for securities &it caracteristics of debt and e+uity, suc as
convertible debt. Under >AAP, all of te proceeds of convertible debt
are recorded as long:term debt. Under IC=S, convertible bonds are
;bifurcated<Eseparated into te e+uity component ,te value of te
conversion option. of te bond issue and te debt component.
Bot IC=S and >AAP follo& te same model for recogni2ing stoc$:
based compensation1 0e fair value of sares and options a&arded
to employees is recogni2ed over te period to &ic te employees-
services relate.
16-/+
6ELEE*;- J*C-S
=elated to employee sare:purcase plans, under IC=S all

employee sare:purcase plans are deemed to be compensatoryK
tat is, compensation e#pense is recorded for te amount of te
discount. Under >AAP, tese plans are often considered
noncompensatory and terefore no compensation is recorded.
Certain conditions must e#ist before a plan can be considered
noncompensatoryEte most important being tat te discount
generally cannot e#ceed (5.
Aodification of a sare option results in te recognition of any

incremental fair value under bot IC=S and >AAP. Do&ever, if te
modification leads to a reduction, IC=S does not permit te reduction
but >AAP does.
16-/,
6ELEE*;- J*C-S
Altoug te calculation of basic and diluted earnings per sare is

similar bet&een IC=S and >AAP, te Boards are &or$ing to resolve
te fe& minor differences in "PS reporting. /ne proposal in te
CASB proHect concerns contracts tat can be settled in eiter cas or
sares. IC=S re+uires tat sare settlement must be used, &ile
>AAP gives companies a coice. 0e CASB proHect proposes
adopting te IC=S approac, tus converging >AAP and IC=S in tis
regard.
/ter "PS differences relate to ,1. te treasury:stoc$ metod and

o& te proceeds from e#tinguisment of a liability sould be
accounted for, and ,!. o& to compute te &eigted average of
contingently issuable sares.
16-//
All of te follo&ing are $ey similarities bet&een >AAP and IC=S &it
respect to accounting for dilutive securities and "PS e#cept1
a. te model for recogni2ing stoc$:based compensation.
b. te calculation of basic and diluted "PS.
c. te accounting for convertible debt.
d. te accounting for modifications of sare options, &en te
value increases.
.J6S SELJ--ES- :<ES-.;
16-133
8ic of te follo&ing statements is correctI
a. IC=S separates te proceeds of a convertible bond bet&een
debt and e+uity by determining te fair value of te debt
component before te e+uity component.
b. Bot IC=S and >AAP assume tat &en tere is coice of
settlement of an option for cas or sares, sare settlement is
assumed.
c. IC=S separates te proceeds of a convertible bond bet&een
debt and e+uity, based on relative fair values.
d. Bot >AAP and IC=S separate te proceeds of convertible
bonds bet&een debt and e+uity.
16-131
Under IC=S, convertible bonds1
a. are separated into te bond component and te e#pense
component.
b. are separated into debt and e+uity components.
c. are separated into teir components based on relative fair
values.
d. All of te above.
16-132
Copyrigt P !41! Fon 8iley Q Sons, Inc. All rigts reserved.
=eproduction or translation of tis &or$ beyond tat permitted in
Section 11* of te 16*) United States Copyrigt Act &itout te
e#press &ritten permission of te copyrigt o&ner is unla&ful.
=e+uest for furter information sould be addressed to te
Permissions Department, Fon 8iley Q Sons, Inc. 0e purcaser
may ma$e bac$:up copies for isOer o&n use only and not for
distribution or resale. 0e Publiser assumes no responsibility for
errors, omissions, or damages, caused by te use of tese
programs or from te use of te information contained erein.
Copyright
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16-1

Issuer &ises to encourage prompt conversion.

Issuer offers additional consideration, called a

S&eetener is an e#pense of te period.

=ecogni2ed same as retiring debt tat is not

Difference bet&een te ac+uisition price and carrying

Convertible preference sares are reported as part of

8en preference sares are converted or

>enerally life of &arrants is five years, occasionally ten years.

Proceeds allocated bet&een te t&o securities.

Allocation based on fair mar$et values.

0&o metods of allocation1

Use te security for &ic fair value can determined.

Allocate te remainder of te purcase price to te

a &arrant to purcase common stoc$.

no allocation of proceeds bet&een te bonds and te

companies record te entire proceeds as debt.

Price is normally less tan current mar$et value.

Companies ma$e only a memorandum entry.

Compensation e#pense based on te fair value of

/ver te periods in &ic employees perform te

>enerally permit all employees to purchase stoc& at a

Plans are considered compensatory unless tey satisfy all

Companies report earnings per sare only for common stoc$.

8en te income statement contains intermediate

Simple Structure::/nly common stoc$K no potentially

Comple4 Structure::Potentially dilutive securities are

=Dilutive> means te ability to influence te "PS in a

options, &arrants, or oter rigts

Income from continuing operations,

Income before e#traordinary items, and

0e company gives an e#ecutive te rigt to receive

Share appreciation is te e#cess of te mar$et price of te

0e company may pay te sare appreciation in cas, sares,

0e accounting for stoc$:appreciation rigts depends on

Dolder receives sares in an amount e+ual to te sare:price

At te date of grant, te company determines a fair value for te

A significant difference bet&een IC=S and >AAP is te accounting

=elated to employee sare:purcase plans, under IC=S all

Aodification of a sare option results in te recognition of any

Altoug te calculation of basic and diluted earnings per sare is

/ter "PS differences relate to ,1. te treasury:stoc$ metod and

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