Unformatted text preview: Week 6 23 August (SH) Lecture Topic 6 Earnings per share Calculate basic and diluted earnings per share Describe the disclosure requirements for EPS Explain the importance and usefulness of earnings Tutorial Questions;
Deegan 5e, Chapter 27 27.2 & 27.13 Practice Questions:
Deegan 5e, Chapter 27 per share disclosure 27.1, 27.8 & 27.9 Topic 6: EPS Practice Questions 27.1 How do we determine: 27.1 (a) (a) basic earnings per share? (b) diluted earnings per share? Basic EPS is determined by dividing the earnings of the entity for the reporting period by the weightedaverage number of shares of the entity. Paragraph 10 of AASB 133 states:
Basic earnings per share shall be calculated by dividing profit or loss attributable to ordinary equity holders of the parent entity (the numerator) by the weighted average number of ordinary shares outstanding (the denominator) during the period. Earnings are determined after deducting any preference share dividends appropriated for the financial year to the extent they have not been treated as expenses of the entity. Preference share dividends are deducted to provide `earnings' on the basis that the EPS is calculated from the perspective of ordinary shareholders. In considering subtracting preference dividends for the purpose of calculating EPS, it is necessary to determine, in those periods where the preference dividend is not paid, whether the preference shares are cumulative or not. The characteristic of a cumulative dividend preference share is that where dividends are not paid in a particular year, they must be paid in later years before ordinary shareholders are entitled to receive any dividends out of profits. If the preference dividend is not cumulative, and no amount has been appropriated for the year, then it may be ignored for the purpose of the EPS calculation. AASB 133 also requires that earnings must be calculated to exclude the following items: Any portion attributable to outside equity interests; and Any costs of servicing equity, paid or provided for, other than dividends on ordinary shares and partlypaid shares.
As indicated above, in determining the number of shares we use a weighted average. Specifically, paragraph 19 of AASB 133 states: For the purpose of calculating basic earnings per share, the number of ordinary shares shall be the weighted average number of ordinary shares outstanding during the period. In determining the `weighted average number of shares', AASB 133 indicates that the number is determined as the total of the number of ordinary shares of the entity outstanding as at the reporting period adjusted as follows: (i) (ii) increased by ordinary shares issued during the reporting period; and,
decreased by reductions in the number of ordinary shares during the reporting period, including by way of share buybacks. where (i) and (ii) are weighted by reference to the number of days from, respectively, the date of issue of those shares, or the date of reduction, to the reporting date as a proportion of the total number of days in the reporting period. The weighted average number of shares also has to take into account `mandatorily convertible securities' that is, securities that must ultimately be converted to ordinary shares. As paragraph 23 of AASB 133 states: Ordinary shares that will be issued upon the conversion of a mandatorily convertible instrument are included in the calculation of basic earnings per share from the date the contract is entered into. The weighted average number of ordinary shares also needs to take into account partly paid ordinary shares unless the partly paid ordinary shares carry no rights to participate in earnings. (b) Diluted EPS is calculated and disclosed where an entity has on issue potential ordinary shares that are dilutive. To determine diluted EPS, the weighted average number of shares will be determined in accordance with the calculations provided for basic EPS, with the inclusion of an additional factor based upon the weighted average number of potential ordinary shares that the company may have had on issue throughout all, or part, of the financial year. A potential ordinary share is broadly defined at AASB 133 as a financial instrument or other contract that may entitle its holder to ordinary shares. AASB 133 requires that in determining the weighted average number of shares for diluted EPS we start with the number used to calculate basic EPS and then make adjustments to this number. Paragraph 36 states: For the purpose of calculating diluted earnings per share, the number of ordinary shares shall be the weighted average number of ordinary shares calculated in accordance with paragraphs 19 and 26, plus the weighted average number of ordinary shares that would be issued on the conversion of all the dilutive potential ordinary shares into ordinary shares. Dilutive potential ordinary shares shall be deemed to have been converted into ordinary shares at the beginning of the period or, if later, the date of the issue of the potential ordinary shares. Specifically, we add the following (to the extent they are dilutive) to the weighted average number of shares used to calculate basic EPS: The weighted average number of shares deemed to be issued for no consideration; The weighted average number of shares that are contingently issued; The dilutive potential ordinary shares are weighted by the number of days they were outstanding. Dilutive potential ordinary shares that have been issued since the beginning of the reporting period and remain outstanding at reporting date are weighted by reference to the number of days from their date of issue to the reporting date. There is a general rule that if a potential ordinary share issue would increase EPS, it is not considered to be dilutive and would be excluded from the calculation of diluted EPS. As paragraph 41 of AASB 133 states: Potential ordinary shares shall be treated as dilutive when, and only when, their conversion to ordinary shares would decrease earnings per share or increase loss per share from continuing operations. Each type of potential ordinary shares (for example, convertible preference shares, convertible notes and share options) must be considered separately. Consideration must also be given to the probability of conversion. If the conversion is at the option of the entity, and the conversion is probable, then the potential ordinary shares must be included in the diluted EPS calculation, even if their inclusion does not dilute EPS. In calculating earnings for diluted EPS we have to consider the effects on earnings that would have occurred if those potential ordinary shares that are dilutive were converted to ordinary shares. We work out revised earnings as if the conversion of the potential ordinary shares had actually occurred. Paragraph 33 of AASB 133 states: For the purpose of calculating diluted earnings per share, an entity shall adjust profit or loss attributable to ordinary equity holders of the parent entity, as calculated in accordance with paragraph 12, by the aftertax effect of: (a) any dividends or other items related to dilutive potential ordinary shares deducted in arriving at profit or loss attributable to ordinary equity holders of the parent entity as calculated in accordance with paragraph 12; (b) any interest recognised in the period related to dilutive potential ordinary shares; and (c) any other changes in income or expense that would result from the conversion of the dilutive potential ordinary shares. (i) dividends, interest or other financing costs associated with dilutive potential ordinary shares that have been recognised as expenses during the reporting period; and any other nondiscretionary changes in revenues or expenses for the reporting period that would result from the conversion of the dilutive potential ordinary shares. (ii) 27.8 Weighted average ordinary shares 100 000 000 0.50 2.00 15 000 000 100 000 000 308 219 Basic Fullypaid ordinary shares Earnings $ EPS $ 365 365 30* 365 * 100 308 219 $410 000 000 $4.09 1 July 200831 May 2009 is 335 days 1 June 200930 June 2009 is 30 days Note: It is assumed that that holders of the partlypaid shares are entitled to dividends in proportion to the paidup amount of the shares. 27.9 Weighted average of outstanding ordinary shares 365 365 181 365 61 365 2 400 000/0.75* 600 000/0.75* 1 000 000 3 763 835 167 123 396 712 3 200 000 Earnings $ 600 000** EPS $ $0.1594 * Calculation of adjustment factor Where Po = last sale price or, if higher, the last bid price cum rights No = the number of ordinary shares required for one right Pr = the subscription price of the right (or the present value of the subscription price payable in instalments) plus the present value of dividends forgone in respect of ordinary shares required for one right not presently participating in dividends where: Px = theoretical ex rights price = (Po No) + Pr No + 1 Adjustment factor = Px Po Px = (1.50 3) + 0 4 Px = 1.125 Px
Po = 1.125 1.50 = theoretical exrights price = $0.75 ** Earnings Profit after tax Less outside equity interests Less preference dividends $ 800 000 (100 000) (100 000) $ 600 000 ...
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