How to approach it
- Basic: time-weight shares; apply the rights bonus fraction (market price ÷ TERP) to periods before the rights issue and the bonus factor to all periods before the bonus issue.
- Diluted, options/warrants: only the 'free' shares, = number × (average price − exercise price) ÷ average price.
- Diluted, convertibles: add back after-tax interest for the period the bonds were in issue, and add the shares for the same period.
- Rank by incremental EPS if there is more than one dilutive instrument; exclude anything anti-dilutive.
Key rules to apply
- TERP = (market value of old shares + cash raised) ÷ total shares after the rights issue.
- A bonus issue is treated as if it happened at the start of the earliest period presented.
- Potential shares are included only if dilutive.
Common mistakes
Drawn from the examiners' comments for this sitting (summarised in our words) and from typical errors on this topic.
- Including all warrant shares instead of the free element (examiners' point).
- Adding back a full year's interest for bonds issued mid-year, or ignoring tax on it.
Similar question with worked solution
Written by us with our own numbers; it tests the same skills as Q3 without copying it.
Original practice question
Rights, bonus, options and convertibles
Profit Rs 60m. 2,000,000 shares at 1 January. 1 April: 1-for-5 rights issue at Rs 90 when the market price was Rs 120. 1 October: 1-for-10 bonus issue. 200,000 options at Rs 100 outstanding all year (average price Rs 160). 1 July: Rs 100m of 10% convertible bonds issued, convertible at 1 share per 2 bonds of Rs 100. Tax 30%.
Required: Calculate basic and diluted EPS.
Worked solution
| Weighted shares | Shares |
|---|---|
| TERP: (5 × 120 + 90) ÷ 6 = 115; rights factor 120 ÷ 115 | |
| Jan–Mar: 2.0m × 1.0435 × 1.1 × 3/12 | 573,913 |
| Apr–Sep: 2.4m × 1.1 × 6/12 | 1,320,000 |
| Oct–Dec: 2.64m × 3/12 | 660,000 |
| Weighted average | 2,553,913 |
| Diluted | Earnings | Shares |
|---|---|---|
| Basic | Rs 60.0m | 2,553,913 |
| Options: 200,000 × 60 ÷ 160 | – | 75,000 |
| Convertibles: 500,000 × 6/12; interest 100m × 10% × 6/12 × 70% | Rs 3.5m | 250,000 |
| Diluted | Rs 63.5m | 2,878,913 |
Answer: Basic EPS ≈ Rs 23.49; diluted EPS ≈ Rs 22.06 (the convertible's incremental EPS of Rs 14 is below basic, so it dilutes).