Chapter 19

basic EPS (issuance of new shares + 10% stock dividends and stock split + reacquired shares + preferred dividends)

(net income - preferred shares) / (shares outstanding*1.1 + new shares*fraction*1.1 - treasury shares*fraction)

diluted eps - convertible securities

- The numerator is increased by the after-tax interest that would have been avoided - increase the denominator of the EPS fraction by the additional common shares that would have been issued upon conversion

stock option plans - give employees the option to purchase

- a specified number of shares - at a specified exercise price - during a specified period of time

a firm with a complex capital structure reports two EPS calculations

- basic eps - diluted eps - incorporates the dilutive effect of all potential common shares

examples of potential common shares

- convertible bonds - convertible preferred stock - stock options - contingently issuable securities

an option pricing model takes into accounts several variables

- exercise price of the option - expected term of the option - current market price of the stock - expected dividends - expected risk-free rate of return during the term of the option - expected volatility of the stock

stock option plans - 2 components in option price

- intrinsic value - time value of the option - computed using option pricing models

diluted eps - assumptions

- options (or rights, or warrants) were exercised at the beginning of the reporting period, or when the options were issued id that's later - cash proceeds from selling the new share at the exercise price are used to buy back as many shares as possible at the share's "average market price" during the year (treasury stock method)

employee share purchase plans

- permit all employees to buy shares "directly from their company" at favorable terms - primary intent of these plans is to encourage employee ownership of the company's shares - loyalty is enhanced among employee shareholders

diluted eps - convertible preferred stock

- shares are added to the denominator of the eps fraction - the preferred dividends in the numerator are not subtracted (because those dividends would have been avoided if the preferred stock had been converted)

stock compensation - restricted stock units

A restricted stock unit is a right to receive a specified number of shares of company stock. After the recipient of RSUs satisfies the vesting requirement, the company distributes the shares.

plans with performance conditions

If compensation from a stock option depends on meeting a performance target, compensation is recorded only if we feel it's probable the target will be met.

stock compensation - restricted stock awards

In a restricted stock award , shares actually are awarded in the name of the employee, although the company might retain physical possession of the shares. The employee has all rights of a shareholder, subject to certain restrictions or forfeiture.

employee share purchase plans - benefit to the employees

allow employees to buy shares from their employer without brokerage fees and at a slight discount criteria for the plan being "noncompensatory" - all employees can participate - employees have no longer than one month after the price is fixed to decide whether to participate - the discount is no greater than 5%

recognizing the fair value of options - we record that amount

as "compensation expense" "over the service period" for which employees receive the options

to include the dilutive effect of a security means to calculate eps

as if the potential increase in shares already has occurred

current rules - require stock options have to be valued

at the full price of the option

recognizing the fair value of options - the fair value is estimated by

employing a recognized "option pricing model"

diluted eps - options, rights, and warrants

gives its holders the right to exercise their option to purchase common stock - at a "specified exercise price"

intrinsic value =

market price of the shares - option price at which they can be acquired

basic EPS (issuance of new shares)

net income / (shares outstanding + new shares*fraction)

basic EPS (issuance of new shares + 10% stock dividends and stock split + reacquired shares)

net income / (shares outstanding*1.1 + new shares*fraction*1.1 - treasury shares*fraction)

basic EPS (issuance of new shares + 10% stock dividends and stock split)

net income / (shares outstanding*1.1 + new shares*fraction*1.1)

basic EPS =

net income / outstanding shares

stock option plans - cliff vesting

one single date

stock option plans - graded vesting

recipients gradually become eligible to exercise their options rather than all at once

potential common shares

securities that are not common stock but might become common stock through their exercise or conversion

stock option plans - plans with performance or market conditions -

stock option plans specify a performance condition or a market condition that must be satisfied before employees are allowed the benefits of the award

recognizing the fair value of options - compensation is now measured as

the fair value of options at the grant date

earlier - US GAAP required stock options were priced at

the intrinsic value

plans with performance or market conditions - objective

to provide employees with additional incentive for managerial achievement

diluted eps - incentive stock options

treasury stock method

complex capital structure

when any potential common shares are outstanding