Deck 19: Share-Based Compensation and Earnings Per Share

Question 1

Dilutive convertible bonds affect both the numerator and the denominator in computing diluted EPS.

Answer 1

True

Question 2

GAAP requires using intrinsic value accounting for employee stock options.

Answer 2

False

Question 3

The compensation associated with restricted stock under a stock award plan is:

A)The book value of an unrestricted share of the same stock times the number of shares.
B)The estimated fair value of a share of similar stock times the number of shares.
C)Allocated to expense over the service period which usually is the vesting period.
D)The book value of a share of similar stock times the number of shares.

Answer 3

C

Question 4

FX Services granted 15 million of its $1 par common shares to executives, subject to forfeiture if employment is terminated within three years. The common shares have a market price of $8 per share on the grant date. Ignoring taxes, what is the effect on earnings in the year after the shares are granted to executives?

A)$0.
B)$15 million.
C)$40 million.
D)$120 million.

Question 5

Under its executive stock option plan, N Corporation granted options on January 1, 2013, that permit executives to purchase 15 million of the company's $1 par common shares within the next eight years, but not before December 31, 2015 (the vesting date). The exercise price is the market price of the shares on the date of grant, $18 per share. The fair value of the options, estimated by an appropriate option pricing model, is $4 per option. No forfeitures are anticipated. Ignoring taxes, what is the effect on earnings in the year after the options are granted to executives?

A)$0.
B)$20 million.
C)$60 million.
D)$90 million.

Question 6

Executive stock options should be reported as compensation expense:

A)Using the intrinsic value method.
B)Using the fair value method.
C)Using either the fair value method or the intrinsic value method.
D)Only on rare occasions.

Question 7

The compensation associated with a share of restricted stock under a stock award plan is:

A)The market price of a share of similar fixed income securities.
B)The market price of an unrestricted share of the same stock.
C)The book value of an unrestricted share of the same stock.
D)The book value of a share of similar stock.

Question 8

Except for tax considerations the potentially dilutive effect of convertible preferred stock is handled in EPS calculations in much the same way as convertible debt.

Question 9

Current year stock dividends and splits require retroactive restatement of EPS for all prior years presented in comparative financial statements.

Question 10

Stock options will be dilutive and included in the calculation of dilutive EPS if the exercise price is greater than the average market value of the stock.

Question 11

Compensation expense must be adjusted during the service period to reflect changes in the fair value of options caused by changes in the market price of the underlying shares.

Question 12

The compensation associated with executive stock option plans is:

A)The book value of a share of the company's shares times the number of options.
B)The estimated fair value of the options.
C)Allocated to expense over the number of years until expiration.
D)Recorded as compensation expense on the date of grant.

Question 13

On January 1, 2013, Red Inc. issued stock options for 200,000 shares to a division manager. The options have an estimated fair value of $6 each. To provide additional incentive for managerial achievement, the options are not exercisable unless divisional revenue increases by 6% in three years. Red initially estimates that it is probable the goal will be achieved. Ignoring taxes, what is compensation expense for 2013?

A)$0.
B)$200,000.
C)$400,000.
D)$1,200,000.

Question 14

If a company's capital structure includes convertible bonds, diluted EPS might be reduced even if the bonds are not actually converted during the year.

Question 15

What amount should M recognize as compensation expense for 2013?

A)$30,000.
B)$60,000.
C)$120,000.
D)$150,000.

Question 16

No time-weighting of contingently issuable shares is required when computing basic EPS.

Question 17

The most important accounting objective for executive stock options is:

A)Measuring and reporting the amount of compensation expense during the service period.
B)Measuring their fair value for balance sheet purposes.
C)To disclose increases or decreases in the stock options held at the end of each accounting period.
D)None of these is correct.

Question 18

If a company reports an extraordinary gain, EPS must be disclosed for both income from continuing operations and net income.

Question 19

If unexpected turnover in 2014 caused the company to estimate that 10% of the options would be forfeited, what amount should M recognize as compensation expense for 2014?

A)$30,000.
B)$60,000.
C)$120,000.
D)$150,000.

Question 20

If previous experience indicates that a material number of stock options will be forfeited before they vest, the fair value estimate of the options on the grant date should be adjusted to reflect that expectation.

Question 21

Assume that all compensation expense from the stock options granted by Wilson already has been recorded. Further assume that 200,000 options expire in 2018 without being exercised. The journal entry to record this would include:

A)Debit to paid-in capital-stock options for $8 million.
B)A debit to common stock for $5 million.
C)A debit to paid-in capital-expiration of stock options for $8 million.
D)None of these is correct.

Question 22

When recognizing compensation under a stock option plan, unanticipated forfeitures are treated as:

A)A change in accounting principle.
B)A loss.
C)An income item.
D)A change in estimate.

Question 23

Under its executive stock option plan, W Corporation granted options on January 1, 2013, that permit executives to purchase 15 million of the company's $1 par common shares within the next eight years, but not before December 31, 2015 (the vesting date). The exercise price is the market price of the shares on the date of grant, $18 per share. The fair value of the options, estimated by an appropriate option pricing model, is $4 per option. No forfeitures are anticipated. The options are exercised on April 2, 2016, when the market price is $21 per share. By what amount will W's shareholder's equity be increased when the options are exercised?

A)$60 million.
B)$270 million.
C)$315 million.
D)$330 million.

Question 24

What is the entry to record the expiration of 10% of the options on December 31, 2017?

A)
B)
C)
D)

Question 25

Under its executive stock option plan, Q Corporation granted options on January 1, 2013, that permit executives to purchase 15 million of the company's $1 par common shares within the next eight years, but not before December 31, 2015 (the vesting date). The exercise price is the market price of the shares on the date of grant, $18 per share. The fair value of the options, estimated by an appropriate option pricing model, is $4 per option. No forfeitures were anticipated; however, unexpected turnover during 2014 caused the forfeiture of 5% of the stock options. Ignoring taxes, what is the effect on earnings in 2015?

A)$18.5 million.
B)$18 million.
C)$19 million.
D)$20 million.

Question 26

Which is the correct entry to record compensation expense for the year 2013?

A)
B)
C)
D)

Question 27

On March 1, 2017, when the market price of Wilson's stock was $14 per share, 3 million of the options were exercised. The journal entry to record this would include:

A)A debit to paid-in capital-stock options for $42 million.
B)A credit to paid-in capital-excess of par for $255 million.
C)A credit to common stock for $75 million.
D)All of these are correct.

Question 28

Wilson's compensation expense in 2013 for these stock options was:

A)$0.
B)$200 million.
C)$400 million.
D)$800 million.

Question 29

If the options have a vesting period of five years, what would be the balance in "Paid-in Capital-Stock Options" three years after the grant date?

A)A credit of $4.8 million.
B)A credit of $16.2 million.
C)A debit of $4.8 million.
D)A debit of $16.2 million.

Question 30

Under its executive stock option plan, M Corporation granted options on January 1, 2013, that permit executives to purchase 15 million of the company's $1 par common shares within the next eight years, but not before December 31, 2015 (the vesting date). The exercise price is the market price of the shares on the date of grant, $18 per share. The fair value of the options, estimated by an appropriate option pricing model, is $4 per option. No forfeitures were anticipated; however, unexpected turnover during 2014 caused the forfeiture of 5% of the stock options. Ignoring taxes, what is the effect on earnings in 2014?

A)$18.5 million.
B)$18 million.
C)$20 million.
D)$19 million.

Question 31

On January 1, 2013, Blue Inc. issued stock options for 200,000 shares to a division manager. The options have an estimated fair value of $6 each. To provide additional incentive for managerial achievement, the options are not exercisable unless divisional revenue increases by 6% in three years. Blue initially estimates that it is not probable the goal will be achieved, but in 2014, after one year, Blue estimates that it is probable that divisional revenue will increase by 6% by the end of 2015. Ignoring taxes, what is the effect on earnings in 2014?

A)$200,000.
B)$400,000.
C)$600,000.
D)$800,000.

Question 32

On January 1, 2013, Black Inc. issued stock options for 200,000 shares to a division manager. The options have an estimated fair value of $6 each. To provide additional incentive for managerial achievement, the options are not exercisable unless divisional revenue increases by 6% in three years. Black initially estimates that it is probable the goal will be achieved. In 2014, after one year, Black estimates that it is not probable that divisional revenue will increase by 6% in three years. Ignoring taxes, what is the effect on earnings in 2014?

A)$200,000 decrease.
B)$200,000 increase.
C)$400,000 increase.
D)No effect.

Question 33

Which is the correct entry to record the exercise of 90% the options on April 15, 2016, when the market price of the stock was $8?

A)
B)
C)
D)

Question 34

On January 1, 2013, G Corp. granted stock options to key employees for the purchase of 80,000 shares of the company's common stock at $25 per share. The options are intended to compensate employees for the next two years. The options are exercisable within a four-year period beginning January 1, 2015, by the grantees still in the employ of the company. No options were terminated during 2013, but the company does have an experience of 4% forfeitures over the life of the stock options. The market price of the common stock was $31 per share at the date of the grant. G Corp. used the Binomial pricing model and estimated the fair value of each of the options at $10. What amount should G charge to compensation expense for the year ended December 31, 2013?

A)$307,200.
B)$320,000.
C)$384,000.
D)$400,000.

Question 35

If restricted stock is forfeited because an employee leaves the company, the appropriate accounting procedure is to:

A)Reverse related entries previously made.
B)Do nothing.
C)Prepare correcting entries.
D)Record an income item.

Question 36

What is the total compensation cost for this plan?

A)$0.
B)$60,000.
C)$240,000.
D)$300,000.

Question 37

On January 1, 2013, Oliver Foods issued stock options for 40,000 shares to a division manager. The options have an estimated fair value of $5 each. To provide additional incentive for managerial achievement, the options are not exercisable unless Oliver Foods' stock price increases by 5% in four years. Oliver Foods initially estimates that it is not probable the goal will be achieved. How much compensation will be recorded in each of the next four years?

A)$10,000.
B)$45,000.
C)$50,000.
D)No effect.

Question 38

Under its executive stock option plan, Z Corporation granted options on January 1, 2013, that permit executives to purchase 15 million of the company's $1 par common shares within the next eight years, but not before December 31, 2015 (the vesting date). The exercise price is the market price of the shares on the date of grant, $18 per share. The fair value of the options, estimated by an appropriate option pricing model, is $4 per option. No forfeitures are anticipated. The options expired in 2019 without being exercised. By what amount will Z's shareholder's equity be increased?

A)$60 million.
B)$270 million.
C)$315 million.
D)$330 million.

Question 39

On January 1, 2013, D Corp. granted an employee an option to purchase 6,000 shares of D's $5 par common stock at $20 per share. The options became exercisable on December 31, 2014, after the employee completed two years of service. The option was exercised on January 10, 2015. The market prices of D's stock were as follows: January 1, 2013, $30; December 31, 2014, $50; and January 10, 2015, $45. An option pricing model estimated the value of the options at $8 each on the grant date. For 2013, D should recognize compensation expense of:

A)$0.
B)$24,000.
C)$30,000.
D)$60,000.

Question 40

What would be the total compensation indicated by these options?

A)$3 million.
B)$27 million.
C)$8 million.
D)$35 million.

Question 41

When computing diluted earnings per share, which of the following will not be considered in the calculation?

A)Dividends paid on common stock.
B)The weighted average common shares.
C)The effect of stock splits.
D)The number of common shares represented by stock purchase warrants.

Question 42

Which of the following is not a potential common stock?

A)Convertible preferred stock.
B)Convertible bonds.
C)Stock rights.
D)Participating preferred stock.

Question 43

The result of a stock split is:

A)A larger number of more valuable shares.
B)An increase in corporate assets.
C)An increase in shareholders' equity.
D)A larger number of less valuable shares.

Question 44

Under U.S. GAAP, a deferred tax asset for stock options:

A)Is created for the cumulative amount of the fair value of the options the company has recorded for compensation expense.
B)Is the portion of the options' intrinsic value earned to date times the tax rate.
C)Is the tax rate times the fair value of all the options.
D)Isn't created if the award is "in the money;" that is, it has intrinsic value.

Question 45

When several types of potential common shares exist, the one that enters the computation of diluted EPS first is the one with the:

A)Highest incremental effect.
B)Higher numerator.
C)Median incremental effect.
D)Lowest incremental effect.

Question 46

Which of the following results in increasing basic earnings per share?

A)Paying more than carrying value to retire outstanding bonds.
B)Issuing cumulative preferred stock.
C)Purchasing treasury stock.
D)All of these increase basic earnings per share.

Question 47

To encourage employee ownership of the company's common shares, KL Corp. permits any of its employees to buy shares directly from the company through payroll deduction. There are no brokerage fees and shares can be purchased at a 15% discount. During May, employees purchased 10,000 shares at a time when the market price of the shares on the New York Stock Exchange was $15 per share. KL will record compensation expense associated with the May purchases of:

A)$0.
B)$15,000.
C)$22,500.
D)$150,000.

Question 48

ABC declared and paid cash dividends to its common shareholders in January of the current year. The dividend:

A)Will be added to the numerator of the earnings per share fraction for the current year.
B)Will be added to the denominator of the earnings per share fraction for the current year.
C)Will be subtracted from the numerator of the earnings per share fraction for the current year.
D)Has no effect on the earnings per share for the coming year.

Question 49

What is Angel's basic earnings per share for 2013, rounded to the nearest cent?

A)$5.29.
B)$5.57.
C)$6.50.
D)None of these is correct.

Question 50

On December 31, 2012, the Frisbee Company had 250,000 shares of common stock issued and outstanding. On March 31, 2013, the company sold 50,000 additional shares for cash. Frisbee's net income for the year ended December 31, 2013, was $700,000. During 2013, Frisbee declared and paid $80,000 in cash dividends on its nonconvertible preferred stock. What is the 2013 basic earnings per share (rounded)?

A)$2.16.
B)$3.50.
C)$3.10.
D)$2.80.

Question 51

How many types of potential common shares must a corporation have in order to be said to have a complex capital structure?

A)Three.
B)Two.
C)One.
D)Zero.

Question 52

What will Angel report as diluted earnings per share for 2013, rounded to the nearest cent?

A)$6.43.
B)$6.25.
C)$6.22.
D)None of these is correct.

Question 53

Basic earnings per share ignores:

A)All potential common shares.
B)Some potential common shares, but not others.
C)Dividends declared on noncumulative preferred stock.
D)Stock splits.

Question 54

Martin Corp. permits any of its employees to buy shares directly from the company through payroll deduction. There are no brokerage fees and shares can be purchased at a 10% discount. During 2013, employees purchased 8 million shares; during this same period, the shares had a market price of $15 per share at the end of the year. Martin's 2013 pretax earnings will be reduced by:

A)$0.
B)$12 million.
C)$108 million.
D)$120 million.

Question 55

The adjustment to the weighted-average shares for retired shares is the same as for issuing new shares except:

A)The shares are deducted rather than added.
B)The shares are added rather than deducted.
C)The shares are treated as being acquired at the end of the year.
D)The shares are treated as being acquired at the beginning of the year.

Question 56

On December 31, 2012, Albacore Company had 300,000 shares of common stock issued and outstanding. Albacore issued a 10% stock dividend on June 30, 2013. On September 30, 2013, 12,000 shares of common stock were reacquired as treasury stock. What is the appropriate number of shares to be used in the basic earnings per share computation for 2013?

A)303,000.
B)342,000.
C)312,000.
D)327,000.

Question 57

Basic earnings per share is computed using:

A)The actual number of common shares outstanding at the end of the year.
B)A weighted-average of preferred and common shares.
C)The number of common shares outstanding plus common stock equivalents.
D)Weighted-average common shares outstanding for the year.

Question 58

Flyaway Travel Company reported net income for 2013 in the amount of $90,000. During 2013, Flyaway declared and paid $2,125 in cash dividends on its nonconvertible preferred stock. Flyaway also paid $10,000 cash dividends on its common stock. Flyaway had 40,000 common shares outstanding from January 1 until 10,000 new shares were sold for cash on April 1, 2013. What is 2013 basic earnings per share?

A)$1.85.
B)$1.64.
C)$1.76.
D)None of these is correct.

Question 59

A simple capital structure might include:

A)Stock rights.
B)Convertible bonds.
C)Nonconvertible preferred stock.
D)Stock purchase warrants.

Question 60

When a company's only potential common shares are convertible bonds:

A)Diluted EPS will be greater if the bonds are actually converted than if they are not converted.
B)Diluted EPS will be smaller if the bonds are actually converted than if the bonds are not converted.
C)Diluted EPS will be the same whether or not the bonds are converted.
D)The effect of conversion on diluted EPS cannot be determined without additional information.

Question 61

Stock options do not affect the calculation of:

A)Diluted EPS.
B)Weighted-average common shares.
C)The denominator in the diluted EPS fraction.
D)Basic EPS.

Question 62

Purple Cab Company had 50,000 shares of common stock outstanding on January 1, 2013. On April 1, 2013, the company issued 20,000 shares of common stock. The company had outstanding fully vested incentive stock options for 5,000 shares exercisable at $10 that had not been exercised by its executives. The average market price of common stock was $12. The company reported net income in the amount of $269,915 for 2013. What is the basic earnings per share (rounded)?

A)$4.10.
B)$3.86.
C)$3.60.
D)$4.15.

Question 63

If a stock split occurred, when calculating the current year's EPS, the shares are treated as issued:

A)At the end of the year.
B)On the first day of the next fiscal year.
C)At the beginning of the year.
D)On the date of distribution.

Question 64

When we take into account the dilutive effect of stock options, rights, and warrants in the calculation of EPS, the method used is called the:

A)Optional method.
B)If converted method.
C)Dilution method.
D)Treasury stock method.

Question 65

All other things equal, what is the effect on earnings per share when a corporation acquires shares of its own stock on the open market?

A)Decrease.
B)No effect if the shares are held as treasury shares.
C)Increase only if the shares are considered to be retired.
D)Increase.

Question 66

The calculation of diluted earnings per share assumes that stock options were exercised and that the proceeds were used to buy treasury stock at:

A)The average market price for the reporting period.
B)The market price at the end of the period.
C)The purchase price stated on the options.
D)The stock's par value.

Question 67

What is Falwell's diluted earnings per share for 2013, rounded to the nearest cent?

A)$3.14.
B)$4.90.
C)$4.34.
D)Cannot determine from the given information.

Question 68

When calculating diluted earnings per share, stock options:

A)Are included if they are antidilutive.
B)Should be ignored.
C)Are included if they are dilutive.
D)Increase the numerator while not affecting the denominator.

Question 69

What is Falwell's basic earnings per share for 2013, rounded to the nearest cent?

A)$3.14.
B)$4.40.
C)$5.00.
D)None of these is correct.

Question 70

Which of the following will require a recalculation of weighted-average shares outstanding for all years presented?

A)Stock dividends and stock splits.
B)Stock dividends but not stock splits.
C)Stock splits but not stock dividends.
D)Stock rights.

Question 71

On December 31, 2012, the Bennett Company had 100,000 shares of common stock issued and outstanding. On July 1, 2013, the company sold 20,000 additional shares for cash. Bennett's net income for the year ended December 31, 2013, was $650,000. During 2013, Bennett declared and paid $89,000 in cash dividends on its nonconvertible preferred stock. What is the 2013 basic earnings per share?

A)$5.91.
B)$5.61.
C)$5.10.
D)None of these is correct.

Question 72

If a stock dividend were distributed, when calculating the current year's EPS, the shares distributed are treated as having been issued:

A)At the end of the year.
B)At the beginning of the year.
C)On the declaration date.
D)On the date of distribution.

Question 73

On December 31, 2012, Beta Company had 300,000 shares of common stock issued and outstanding. Beta issued a 5% stock dividend on June 30, 2013. On September 30, 2013, 40,000 shares of common stock were reacquired as treasury stock. What is the appropriate number of shares to be used in the basic earnings per share computation for 2013?

A)315,000.
B)307,500.
C)305,000.
D)267,500.

Question 74

The following information pertains to J Company's outstanding stock for 2013: What is the number of shares J should use to calculate 2013 basic earnings per share?

A)20,000.
B)22,500.
C)25,000.
D)27,000.

Question 75

Getaway Travel Company reported net income for 2013 in the amount of $50,000. During 2013, Getaway declared and paid $2,000 in cash dividends on its nonconvertible preferred stock. Getaway also paid $10,000 cash dividends on its common stock. Getaway had 40,000 common shares outstanding from January 1 until 10,000 new shares were sold for cash on July 1, 2013. A 2-for-1 stock split was granted on July 5, 2013. What is the 2013 basic earnings per share (rounded)?

A)$.42.
B)$.47.
C)$.53.
D)$.56.

Question 76

In computing diluted earnings per share, the treasury stock method is used for:

A)Stock warrants.
B)Stock splits.
C)Reverse stock splits.
D)Convertible preferred stock.

Question 77

Blue Cab Company had 50,000 shares of common stock outstanding on January 1, 2013. On April 1, 2013, the company issued 20,000 shares of common stock. The company had outstanding fully vested incentive stock options for 5,000 shares exercisable at $10 that had not been exercised by its executives. The end-of-year market price of common stock was $13 while the average price for the year was $12. The company reported net income in the amount of $269,915 for 2013. What is the diluted earnings per share (rounded)?

A)$3.60.
B)$4.10.
C)$4.50.
D)$3.81.

Question 78

The calculation of diluted earnings per share assumes that stock options were exercised and that the proceeds were used to:

A)Buy common stock as an investment.
B)Retire preferred stock.
C)Buy treasury stock.
D)Increase net income.

Question 79

Baldwin Company had 40,000 shares of common stock outstanding on January 1, 2013. On April 1, 2013, the company issued 20,000 shares of common stock. The company had outstanding fully vested incentive stock options for 10,000 shares exercisable at $10 that had not been exercised by its executives. The average market price of common stock for the year was $12. What number of shares of stock (rounded) should be used in computing diluted earnings per share?

A)65,000.
B)56,667.
C)55,000.
D)46,667.

Question 80

Stock options, rights, and warrants are different from convertible securities in that they:

A)Typically increase cash upon exercise.
B)Usually reduce total assets upon exercise.
C)Often reduce liabilities upon exercise.
D)Normally increase retained earnings upon exercise.