Another diluted EPS question

CFA Level I FRA
#1

I think i understand the formula but I just don’t get the answer of this one…and I think the answer is wrong. could someone take a look?

An analyst has gathered the following information about Zany Corp.

  • Net income of $200,000 for the year ended December 31, 2004.
  • During 2004, 50,000 common shares were outstanding.
  • Zany has 10,000 shares of 7%, $50 par convertible preferred stock outstanding, each convertible into two shares of common.
  • 5,000 warrants are outstanding with an exercise price of $24. Each warrant is convertible into one common share.
  • The average market price per common share during 2004 was $20.

Calculate Zany’s basic and diluted earnings per share (EPS) for 2004.

#2

The answer from the book is here, I dont get where the 35,000 is from in Basic EPS??

Basic EPS = (net income − preferred dividends) / number of common shares = (200,000 − 35,000) / 50,000 = $3.30 per share

The preferred shares are converted into 20,000 common shares, the firm does not pay preferred dividends. Diluted EPS = 200,000 / (50,000 + 20,000) = $2.86 per share. The warrants are out of the money at a stock price of $20.

#3

adding to that, I thought you don’t consider converting preferred stock to common when calculating basic EPS?

And in diluted EPS, I thought none of the preferred or options here would be converted since the price is higher than the average stock price?

#4

The $35,000 got into the model like this: (10,000*50)*7% = $35,000. That is the preferred stock dividend which will be subtracted from the Basic EPS.

Yea, you are right with the Diluted EPS

#5

$35,000 is the dividend on Preferred Stock.

Warrants are good only if the excercis price is lower than the market price.