23-1 powerpoint slides to accompany new zealand financial accounting 5e by samkin slides adapted by...

23-1PowerPoint slides to accompany New Zealand Financial Accounting 5e by Samkin Slides adapted by Murugesh Arunachalam, © 2011 McGraw-Hill Australia Pty Ltd

Earnings per shareChapter 23

Learning objectives

• Be able to define and calculate basic earnings per share and how to adjust the calculation to take account of the existence of bonus or rights entitlement.

• Understand what potential ordinary shares are, and be able to determine whether they are dilutive.

• Understand how to calculate diluted earnings per share.

• Understand the disclosure requirements for basic and diluted earnings per share.


Introduction to accounting for earnings per share

• NZ IAS 33 ‘Earnings per Share’ issued in January 2005 requires disclosure of basic earnings per share and diluted earnings per share.

• Applies to:– Entities whose ordinary shares are publicly traded.– Entities that are in the process of issuing shares or potential

ordinary shares in public markets– Entities that voluntarily disclose earnings per share.


Introduction to accounting for earnings per share

• An entity must disclose earnings per share on the face of the statement of comprehensive income and must be presented even if the amounts are negative (loss per share).

• Comparatives must also be shown for previous year.

• NZ IAS 33 need only apply to the consolidated financial statements.


Computation of basic earnings per share

• NZ IAS 33 paragraph 66 requires that basic and diluted earnings per share be disclosed on the face of the statement of comprehensive income.

• Need to consider at least two issues:1. How earnings are defined.

2. How the number of shares are determined.

• Basic earnings per share determined by dividing the earnings of the entity for the reporting period by the weighted-average number of shares of the entity.



• Earnings determined after deducting:– Any preference share dividends appropriated for the

financial year to the extent that they have not been treated as expenses of the entity.

• Preference share dividends are deducted to provide earnings on the basis that EPS is calculated from the perspective of the ordinary shareholders — EPS relates to earnings per ordinary share.



Preference dividends• In periods where preference dividends are not paid,

need to consider whether or not preference shares are cumulative.– If cumulative, dividends not paid in one year must be paid in

later years before ordinary shareholders are entitled to dividends.

– If not cumulative and no preference dividend paid, it is ignored for purposes of calculating earnings per share.

• Refer to NZ IAS 33 (par. 14).



Earnings must be calculated to exclude the

following:• Any portion attributable to non-controlling interests.• Any costs of servicing equity, paid or provided

for, other than dividends on ordinary shares and partly-paid shares.



• NZ IAS 33 paragraph 20 provides guidance to determine the weighted-average number of ordinary shares. – The weighted average number of ordinary shares

outstanding during the period is the number of ordinary shares outstanding at the beginning of the period, adjusted by the number of ordinary shares bought back or issued during the period multiplied by a time-weighting factor.



Definition of ordinary shares (NZ IAS 33, par. 5):• An equity instrument that is subordinate to all

other classes of equity instruments.• For the purposes of the standard, it does not matter

what the shares are called.• If they have the above characteristics, they are

treated as ordinary shares — standard applies a substance-over-form test.



Considering partly paid shares in weighted average NZ IAS 33 paragraph A15:•Where ordinary shares are issued but not fully paid, they are treated in the calculation of basic earnings per share as a fraction of an ordinary share to the extent that they were entitled to participate in dividends during the period relative to a fully paid ordinary.



Mandatory convertible securities • Entities might also have on issue mandatory

convertible securities (securities that must be ultimately be converted to ordinary shares).

• Ordinary shares that will be issued upon the conversion of a mandatory convertible instrument are included in the calculation of basic earnings per share from the date the contract is entered into (NZ IAS 33 par. 23).

• Refer to Worked Example 23.1,'Calculation of basic EPS‘.



Discontinued operations:• A discontinued operation is (NZ IFRS 5, ‘Non-current

Assets held for sale and Discontinued Operations’).– A component of an entity that either has been disposed of

or is classified as held for sale and: represents (or is part of a single coordinated plan to dispose

of) a separate major line of business or geographical area of operations.

is a subsidiary acquired exclusively with a view to resale.

– Refer to Worked Example 23.2, ‘Calculation of basic EPS in the presence of discontinued operations’.



Adjustment for bonus issues• Bonus issues have an impact on the weighted-average

number of ordinary shares.• The bonus issue does not change total shareholders’

funds — it involves a transfer from retained profits to share capital (assuming funded from retained earnings).

• The number of shares outstanding before the bonus issue should be increased as if the bonus has been in place for the entire reporting period.

• Weighted-average number of ordinary shares prior to rights or other issue is divided by an adjustment factor.

• Refer to NZ IAS 33 (pars 27 and 28).



Adjustment for bonus issues:•If one-for-one bonus issue, number of shares would double.•Given no effect on earnings, doubling shares would halve EPS.•Prior period comparatives for EPS are also adjusted for the bonus issue so that comparisons can be made as if the bonus shares had been issued in the previous period.•If shares issued at the prevailing market price, there is no bonus element, and no adjustment is necessary.



Calculation of adjustment factor

• Adjustment factor = Px ÷ Po' where:

– Px = theoretical ex-rights price = [(Po × No) + Pr] ÷ (No + 1)

– Po = last sales price or, if higher, last bid price cum rights

– No = no. of shares required for one right

– Pr = subscription price of right + present value of dividends forgone in respect of ordinary shares required for one right not presently participating in dividends

• Refer to Worked Example 23.3, ‘Calculation of EPS in the presence of a bonus issue’.



Rights issue• Existing shares may be provided with rights to

acquire additional shares at price below current market price of the firm’s shares.

• If exercise price is less than the market price of the shares, the rights issue includes a bonus element.

• Where there is a bonus element the weighted-average number of shares needs to be adjusted using the previous formula.

• Refer to Worked Example 23.4, ‘Calculation of EPS in the presence of a rights issue with a bonus element’.


Diluted earnings per share

• NZ IAS 33 requires that diluted EPS be disclosed together with basic EPS on the face of the income statement.

• Diluted EPS must be calculated where an entity has on issue ‘potential ordinary shares’ that are, in fact, dilutive.

• Refer to NZ IAS 33, par. 31.



Potential ordinary shares (NZ IAS 33, par. 5):• A financial instrument or other contract that may

entitle its holder to ordinary shares.• Potential ordinary shares are considered dilutive

when and only when the conversion to, calling of, or subscription for ordinary shares would decrease (or increase) net profit (or loss) from continuing ordinary operations per share.



Potential ordinary shares:• If securities currently on issue might be converted

to ordinary shares, this will increase the number of ordinary shares on issue, leading to a decrease in EPS.

• Users of financial reports need to know about this potential reduction (dilution) in EPS.

• Diluted earnings per share will show how EPS would fall if the potential ordinary shares were actually converted to ordinary shares — aim is to inform investors about how EPS could be affected in the future.



Examples of potential ordinary shares:• Convertible preference shares• Share options• Convertible bonds• Convertible notes.



To determine diluted EPS:• Weighted-average number of shares calculated

as per basic EPS.– Adjusted by a factor based on weighted-average number of

potential ordinary shares that the company had on issue throughout all or part of the financial year.

• General rule applies that if a potential ordinary share issue would increase EPS, it is not considered to be dilutive.– Excluded from calculation of diluted EPS.



To determine diluted EPS:• Each type of potential ordinary share needs to be

considered separately.• If the conversion is at the option of the entity, and the

conversion is probable, the potential ordinary shares must be included in the diluted EPS calculation — even if their inclusion does not dilute EPS.

• If conversion of potential ordinary shares to ordinary shares is mandatory, they would have already been included in basic EPS calculation.



Calculating earnings for diluted EPS•Start with earnings used to calculate basic EPS and make adjustments for the after-tax effect of (NZ IAS 33, par 33):

– 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 par. 12.

– Any interest recognised in the period related to dilutive potential ordinary shares.

– Any other changes in income or expense that would result from the conversion of the dilutive potential ordinary shares.

•Refer also to NZ IAS 33, pars 32 and 35.



• Calculating the weighted-average number of shares for diluted EPS– Start with number used to calculate basic EPS and add the

following: Weighted-average number of shares deemed to be issued for

no consideration. Weighted-average number of shares that are contingently

issued.

• Dilutive potential ordinary shares are weighted by the number of days they were outstanding.



Shares issued for no consideration:• If the price paid for the shares is less than the

market price.• Refer to NZ IAS 33, pars 46 and 47.• In the case of options, for example, there is a need

to calculate the number of shares issued for no consideration — this number is added to the number of ordinary shares (to the denominator) in the computation of EPS.



Contingently issuable shares:• Ordinary shares issued for little or no cash or other

consideration upon the satisfaction of specified conditions in a contingent share agreement (NZ IAS 33, par. 5).

• Refer to NZ IAS 33, par. 52 .


Diluted earnings per share• Refer to Worked Example 23.5, ‘Calculation of basic and diluted

EPS’:– Need to initially calculate basic EPS.

– Each potential ordinary share to be considered separately, i.e. convertible debentures, share options, convertible cumulative preference shares.

– Potential ordinary shares need to be ranked from greatest to least dilution.

– A trigger test needs to be applied to determine whether potential ordinary shares are, in fact, dilutive — if a particular security does not dilute EPS, it is not to be included when calculating diluted EPS (unless conversion is mandatory or probable and at the option of the entity).

– Potential ordinary shares found to be dilutive based on trigger test are used in calculation of diluted EPS.



• If an entity has discontinued operations, disclosure must be made of diluted earnings per share attributable to:– profit or loss from continuing operations– total profit or loss from both continuing and discontinued

operations.

• An entity that reports a discontinued operation shall disclose basic and diluted EPS either on the face of the Statement of Comprehensive Income or in the Notes to the Financial Statements (NZ IAS 33, paragraph 68).


Summary

• New Zealand-listed entities and those in the process of listing are required, pursuant to NZ IAS 33, to disclose information about EPS in their annual reports.

• EPS calculated from the perspective of the ordinary shareholder.

• Determined by dividing the earnings of the company by the weighted-average number of ordinary shares outstanding during the year.

• In determining earnings, preference share dividends are excluded.


Summary

• Need to consider the implications of a bonus issue or a rights issue and the use of an adjustment factor in the calculation of weighted-average number of shares.

• Diluted EPS is also disclosed together with basic EPS on the face of the income statement.

• Basic and diluted EPS must also be reported separately for continuing and discontinuing operations.


Summary• In calculating diluted EPS, the adjusted earnings

(calculated on the notional basis that the various securities have actually been converted to ordinary shares) are to be divided by the weighted-average number of ordinary and potential ordinary dilutive shares.

• Each type of potential ordinary share must be considered separately when calculating diluted EPS.

• If a particular type of potential ordinary share (e.g. convertible notes, convertible preference shares, or share options) is not considered to be dilutive, it should be excluded from the calculation of diluted EPS.


23-1 powerpoint slides to accompany new zealand financial accounting 5e by samkin slides adapted by...

Documents

share earnings

diluted earnings

computation of basic

share chapter

disclosure of basic

preference share dividends

share preference dividends

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