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Knight Co. owned 80% of the common stock of Stoop Co. Stoop had 50,000 shares of...

Knight Co. owned 80% of the common stock of Stoop Co. Stoop had 50,000 shares of $5 par value common stock and 2,000 shares of preferred stock outstanding. Each preferred share received an annual per share dividend of $2 and is convertible into four shares of common stock. Knight did not own any of Stoop's preferred stock. Stoop also had 600 bonds outstanding, each of which is convertible into ten shares of common stock. Stoop's annual after-tax interest expense for the bonds was $2,000. Knight did not own any of Stoop's bonds. There are no excess amortizations or intra-entity transactions associated with this consolidation. Stoop reported net income of $300,000 for 2018. Knight has 100,000 shares of common stock outstanding and reported net income of $400,000 for 2018.

What would Knight Co. report as consolidated diluted earnings per share (rounded)?

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Answer #1

No of shares held by Knight Co. in Stoop Co. = 50,000 * 80% = 40,000 shares

Potential common stock due to conversion of preferred shares = 2000 *4 = 8000 shares

Potential common stock due to conversion of bonds = 600*10 = 6000 shares

Total diluted shares of Stoop= 8000+6000+50000 = 64000 shares

Percentage of holding of Knight co. post conversion of potential common stock = 40000/64000 = 62.5%

Stoop co's pre tax income = 300,000+2000 = 302,000

Knight's share in Stoop co's pre tax income = 302,000*62.5% = 188750

Knight Co's Consolidated diluted earnings = 188,750+400,000 = 588,750

Knight Co's total common stock shares = 100,000

Knight Co. EPS = Diluted Earnings / Common Stock

= 588,750/100,000

= $ 5.88 per share

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