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    Earnings per Share for Major Corporation

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    C10-3 Earnings per Share

    Major Corporation has 100,000 shares of $10 par value common stock outstanding and no preferred stock outstanding. Minor Corporation has 50,000 shares of $5 par value common stock and 20,000 shares of $20 par value preferred stock. The preferred shares pay an annual dividend of $2 each and are cumulative. In addition, each preferred share can be converted into five shares of Minor's common stock at any time prior to December 31, 20X9. For the year ended December 31, 20X4, Major reported operating earnings of $170,000, and Minor reported net income of $130,000. Major owns 60 percent of Minor's common shares and 30 percent of its preferred stock. Major's chief accountant has no experience in computing earnings per share and has concluded Major's primary and diluted EPS for 20X4 is $2.36.

    As a senior staff member of Major's accounting department, you have been asked to prepare a memo to the chief accountant that includes the computations needed to determine primary and diluted earnings per share for the consolidated entity. In your memo include citations to or quotations from the authoritative accounting literature in support of the procedures you use.

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    Solution Preview

    Basic and diluted EPS are calculated in different ways. In basic EPS we do not take into consideration the convertible securities. It is based in the number of shares outstanding.
    In diluted EPS, we take the convertible securities and assume that they have been converted. This increases the number of shares and thus changes the EPS.
    The question states "each preferred share can be converted into five shares of Minor's common stock". In diluted EPS calculation, the impact of the conversion of preferred stock in to common stock is taken into ...

    Solution Summary

    The solution explains how to calculate the primary and diluted earnings per share for Major Corporation