This answer could result from dividing the net income of $120,000 by the average of the weighted average number of common shares outstanding and the weighted average number of preferred shares outstanding. Basic earnings per share is income available to common shareholders divided by the weighted average number of common shares outstanding.
This answer results from subtracting the common dividends from net income and dividing the result by the number of common shares outstanding. Common dividends are not subtracted from net income to calculate the income available to common shareholders because the common dividends are available to the common shareholders. Only items that are not available to common shareholders should be subtracted from net income. Basic earnings per share is income available to common shareholders divided by the weighted average number of common shares outstanding.
Basic earnings per share is calculated as the income available to common shareholders divided by the weighted average number of common shares outstanding (which is given to us in the problem as 1,500). The income available to common shareholders is equal to net income minus preferred dividends. Net income was $120,000 and the preferred dividends were $5,000, giving an income available to common shareholders of $115,000. (Common dividends are not subtracted from net income because the common dividends are still available to the common shareholders.) $115,000 divided by 1,500 shares gives an EPS of $76.67.
This answer incorrectly subtracts common dividends from net income instead of preferred dividends to calculate income available to common shareholders and then divides this number by the number of preferred shares instead of common shares outstanding. Basic earnings per share is income available to common shareholders divided by the weighted average number of common shares outstanding.
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