Financial Reporting and Analysis #3

We will look into a few more concepts from Financial Reporting today, which as I’ve already said, is one of the most critical sections of the CFA exam.

Basic vs. Diluted EPS

Since some elements are paid out on an “after tax basis,” it affects the earnings per share that regular investors receive. As an example, if a company has outstanding convertible debt, it affects the earnings that ordinary investors get and could be “dilutive” in this example. Several elements have an impact. For example, with preferred shares:

basic EPS= (net income-preferred dividends) / weighted average number of common shares outstanding

You need to review this section to understand stock dividends, stock splits, convertible debt, convertible preferred stock, and stock options.

The complicated formula:

diluted eps= (net income – preferred dividends) + convertible preferred dividends + convertible debt interest (1-t)

weighted average shares+ shares from conversion of prefs+debt + shares issuable from stock options

Classification of Investments

When a company holds investments in forms of debt or equity, it needs to be determined how the investment is considered on the company’s financial statements:

Held to maturity: Debt securities held with the intention of selling at maturity – reported on balance sheet at an amortized cost and only interests + realized gains & losses are part of the income statement

Trading Securities: Debt securities held with the intention of near term profits – reported on balance sheet at faire value and all components are reported on the income statement (dividends, interest, realized, and unrealized)

Available for sale: Neither expected to be sold in the short term or held until maturity = reported at fair value on the balance sheet and dividends, interests and realized gains, and losses are all part of the income statement.

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