American Health Systems currently has 5,000,000 shares of stock outstanding and will report earnings of $18 million in the current year. The company is considering the issuance of 1,200,000 additional shares that will net $40 per share to the corporation.

American Health Systems currently has 5,000,000 shares of stock outstanding and will report earnings of $18 million in the current year. The company is considering the issuance of 1,200,000 additional shares that will net $40 per share to the corporation.

  

a.	What is the immediate dilution potential for this new stock issue? (Do not round intermediate calculations and round your answer to 2 decimal places.)

   
 

Dilution

$  per share

  

b-1.	Assume that American Health Systems can earn 8 percent on the proceeds of the stock issue in time to include them in the current year’s results. Calculate earnings per share. (Do not round intermediate calculations and round your answer to 2 decimal places.)

  
 

Earnings per share

$

  

b-2.	Should the new issue be undertaken based on earnings per share?
	No

 
Explanation:

a.

Earnings per share before stock issue:

EPS = $18,000,000 / 5,000,000

= $3.60

Earnings per share after stock issue:

EPS = $18,000,000 / 6,200,000

= $2.90

Dilution = $3.60 – 2.90

= $.70 per share

    
b-1.

Net income	=	$18,000,000 + .08 (1,200,000 × $40)
	=	$21,840,000

    

Earnings per share after additional income:

EPS = $21,840,000 / 6,200,000

= $3.52

b-2.

No, the EPS of $3.52 is lower than $3.60