Domanico Co., which produces and sells biking equipment, is financed as follows: Bonds payable, 10% (issued at face amount) $2,000,000 Preferred $2 stock, $20 par 2,000,000 Common stock, $25 par 2,000,000 Income tax is estimated at 40% of income. Determine the earnings per share on common stock, assuming that the income before bond interest and income tax is (a) $700,000, (b) $900,000, and (c) $1,100,000.

a) $1.25 per share

b) $2.75 per share

c) $4.25 per share

Explanation:

first we must determine bond interest = $2,000,000 x 10% = $200,000

I assume that there are not 2,000,000 preferred stocks since then the preferred stock dividend would be $4,000,000 per year which is much greater than any income given. Instead I guess that the total outstanding preferred stocks = $2,000,000 / $20 = 100,000 preferred stocks x $2 = $200,000 preferred stock dividends.

I will also assume that the same thing happened to common stocks = $2,000,000 / $25 = 80,000

earnings per share = (net income - preferred stock dividends) / outstanding common stocks

tax = 40%

a) EBIT = $700,000

net income = ($700,000 - $200,000 interests) x (1 - 40%) = $300,000

earnings per share = ($300,000 - $200,000) / 80,000 = $1.25 per share

b) EBIT = $900,000

net income = ($900,000 - $200,000 interests) x (1 - 40%) = $420,000

earnings per share = ($420,000 - $200,000) / 80,000 = $2.75 per share

c) EBIT = $1,100,000

net income = ($1,100,000 - $200,000 interests) x (1 - 40%) = $540,000

earnings per share = ($540,000 - $200,000) / 80,000 = $4.25 per share

a. Earnings per share on common stock $ 1.70 i. e., 1 Dollar and 70 cents

b. Earnings per share on common stock $ 3.20 i. e., 3 Dollars and 20 cents

c. Earnings per share on common stock $ 4.70 i. e., 4 Dollars and 70 cents

Calculation of Bond Interest:

As per the information given in the question we have

Bonds payable, 10 % (issued at face amount) = $ 2,000,000

This implies that rate of Bond Interest = 10 %

Total face value of the Bonds issued = $ 2,000,000

Thus the Bond Interest = Total face value of the Bonds issued * Rate of Bond Interest

= $ 2,000,000 * 10 % = $ 200,000

Thus the Bond Interest = $ 200,000

Calculation of Preferred stock Dividend:

As per the information given in the question we have

Total value Preferred Stock issued = $ 2,000,000

Par value of preferred stock = $ 20

Thus the Total No. of shares of preferred stock issued = $ 2,000,000 / $ 20

= $ 100,000

As per the information given in the question

Preferred stock dividend per share = $ 2

Total No. of shares of preferred stock issued = $ 100,000

Thus the total preferred stock dividend i. e., Preference Dividend = Preferred stock dividend per share * Total No. of shares of preferred stock issued

= $ 2 * 100,000

= $ 200,000

Thus the Preference Dividend = $ 200,000

Calculation of Number of shares of Common stock:

As per the information given in the question we have

Total value Common Stock issued = $ 2,000,000

Par value of Common stock = $ 25

Thus the Total No. of shares of Common stock issued = $ 2,000,000 / $ 25

= 80,000

No. of shares of Common stock = 80,000