As we will show below, only the options and convertible preferred stock are dilutive.

First, calculate basic EPS to use as a benchmark to determine dilutive capital components.
Basic EPS = (net income – preferred dividends) / weighted average common shares outstanding
Here, preferred dividends = (0.5 shares × $30 par × 0.10 dividend) = $1.5 million = (9.0 – 1.5) / 5.0 = $1.50.

Now, check for dilutive elements.

• options are dilutive because the exercise price is less than the stock price. There is no numerator impact from the options. The denominator impact = # options – [(# options × exercise price) / average stock price)] = 400,000 – [(400,000 × 32) / 35] = 34,286 or 0.034 million.

• To check whether the convertible preferred stock is dilutive we need to determine whether it decreases EPS. To the numerator, we add back the preferred dividend. The denominator impact = (# preferred shares × conversion rate) = 500,000 × 5 = 2,500,000, or 2.5 million. Then, EPS = (9.0 – 1.5 + 1.5) / (5.0 + 2.5) = $1.20. Thus the convertible preferred stock is dilutive.

• To check whether the convertible bonds are dilutive we need to determine whether they decrease EPS. To the numerator, we add back the after-tax impact of the coupon, or (face value × coupon × (1 − t)), or (10,000 bonds × 1,000 par × 0.06 coupon × 0.6 ) = 360,000, or $0.360 million. The denominator impact = (# convertible bonds × conversion rate) = 10,000 × 8 = 80,000, or 0.080 million. Then, EPS = (9.0 – 1.5 + 0.360) / (5.0 + 0.080) = $1.55. Thus the bonds are antidilutive.

Finally, calculate dilutive EPS:
Diluted EPS = (9.0 – 1.5 + 1.5) / (5.0 + 2.5 + 0.034) = approximately $1.19