Dilutive Securities and EPS Flashcards
What are Dilutive Securities
dilutive securities are securities that can be converted to common stock
what do dilutive securities do when they are converted or exercised?
They reduce (dilute) the earnings per share
What are the types of dilutive securities
-Convertible Debt
-Convertible Preferred Stock
-Stock Warrants
-Stock options and other compensation plans
What are convertible bonds
bonds that can be changed into other corporate securities during some specified period of time after issuance
Why would an investor be interested in convertible debt
- They have the benefit of the bond… still get interest and principal
- Privilege of Exchanging for stock at their discretion
Why would a company want to issue convertible debt
- Raise equity capital without giving up more ownership control than necessary
- Obtain debt financing at cheaper rates
How is convertible debt accounted for a time of issuance
- Like normal debt issues…
Cash
Note Payable
Premium (discount)
how is the retirement of convertible debt accounted for?
same as retiring nonconvertible debt
Note Payable
Remaining premium (discount)
Cash
How is convertible debt accounted for at the time of conversion?
-what method
-what is the method
-J.E
using the book value method, meaning they recognize no gain or loss upon conversion
Bond Payable
Premium remaining (discount)
Common stock
PIC - common stock
are any of the proceeds received on convertible bond issuance recorded as equity
NO
what does the book value method record the conversion at
the carrying amount of the bond (the book value)
What is an induced conversion?
when the issued wants to encourage conversion and offers an additional consideration called a sweetener
how is an induced conversation accounted for
the sweetener is expensed in the current period
debt conversion expense
cash
What is convertible preferred stock
when the preferred stock includes an option for the holder to convert preferred shares into fixed number of common shares
How is preferred stock classified
as a part of stockholders equity, unless mandatory redemption exists
what method is used when exercising conversion for preferred stock
book value method… no gain or loss is recognized
what happens if the par value of common stock is greater than book value of preferred stock when conversion happens
the difference goes into a retained earnings account
is the current market value relevant when recording the conversion of preferred stock
no because of the book value method the PIC of the common stock is a plug so the market values do not matter
What are stock warrants
certificates that entitles the holder to acquired shares of stock at a certain price within a stated period
what three situations do stock warrants arise under
- To make stocks more attractive (stock warrants issued with other securities)
- Existing stockholders have preemptive right to purchase common stock first
- To executive and employees as a form of compensation (stock option compensation plans)
What are stock warrants issued with other securities
long term option to buy common stock at a fixed price
how is stock warrant allocation determined
based on fair market values or relative fair value
- can either allocate using proportional method or incremental method
How does the proportional method work for stock warrants
- Need to determine standalone bond value as well as standalone warrant value and allocate based on the amounts fair value
What is the journal entry at issuance of stock warrant
Cash
Discount (or Premium) on bond payable
Bond payable
PIC- Stock warrant
what is the journal entry when warrants are excersised
Cash
PIC - Stock warrants
Common Stock
PIC- Common Stock
what is the journal entry if none of the stock warrants are exercised
PIC -Stock warrants
PIC - Expired Stock warrants
What is the incremental method in terms of stock warrants
a company only knows the fair value of one so they use the securities fair value that is known and back out of it to find the other value
What do stock warrants involve
TWO securities
- debt and then warrant to purchase common stock
What are nondetachable warrants and how are they accounted for
warrants that cannot be separated from debt
- recorded just to debt not to equity
What are stock rights
existing stockholders have the right (preemptive privilege) to purchase newly issued shares in proportion to their holding
what are some characteristics of stock rights
- price is normally less than current price of the shares
- company only makes a memorandum entry as they have not yet issued stock or received cash
What is the journal entry if holders exercise a stock right
Cash
Common stock
PIC - Common Stock
what is a stock option
part of stock compensation plan
gives employees the option to purchase stock at a given price over an extended period of time
what is a grant date
date employees receive stock option
how does FASB requiring companies to use fair value method when accounting for stock option affect the accounting
- requires recognition of stock compensation expense using the fair value on the grant date
- Companies use the option-pricing model to estimate fair value (like Black-Scholes)
- Compensation expense is allocated over service period (vesting period)
why is it important that firms expense stock options
because if they didn’t, they wouldn’t recognize any compensation expense and it wouldn’t represent business correctly
What are the two main accounting issues in stock option plans
- How to determine compensation expense
- What period to allocate compensation expense over
what is the journal entry for a stock option at grant date
no entry
what is the journal entry for a stock option during the vesting period
compensation expense (total/years of vesting)
PIC- stock options
What is the journal entry for a stock option that is excersised
Cash (amount X exercises price)
PIC - Stock option
Common Stock
PIC - Common stock
What is the journal entry for a stock option that is expired
PIC - stock option
PIC - expired stock option
What are the different stock compensation plans
- Stock options
- Restricted Stock Awards and Units
What are the two types of restricted stock
-Restricted stock units
- Restricted stock awards
what are the steps to accounting restricted stock
- Determine the total compensation expense based on the fair value of the stock (units) on the grant date
- Recognize compensation in the periods in which the employee performs service
what is a restricted-stock plan
a form of stock compensation that transfers shares of stock to employees, subject to an agreement that the shares cannot be sold, transferred or pledged until vesting occurs.
what is the “vesting period” in terms of restricted stock
time where restrictions on shares are in effect
it is the time from grant date until the end of vesting period
what are the major advantages of a restricted-stock plan
- never becomes completely worthless
- generally results in less dilution to existing stockholders
- better aligns employee incentives with company incentives
what is the entry at the grant date of a stock award
Unearned compensation expense (at entire fair value)
Common stock
PIC - common stock
what is the unearned compensation account
a contra equity account that represents the cost of services yet to be performed
what is the journal entry for forfeited stock stock awards
Common stock
PIC - common stock
Compensation expense - for years that it has been expensed
Remaining unearned compensation
what is restricted stock units
similar to a stock award but the stock is only accounted for after employees completes vesting period
what is the journal entry at issuance date for stock units
none
what is journal entry at the end of the first year of vesting for stock units
compensation expense (total/ vesting)
PIC- restricted stock unit
what is the journal entry for an expired stock unit
PIC - restricted stock unit
Compensation expense
