The Fama Company has unvested options on 1000 shares outstanding at the beginnin

Question

The Fama Company has unvested options on 1000 shares outstanding at the beginning and end of current year. The exercise price is $20, the fair market value on grant date was $5 and the ave market price of the stock during the current year is $30. The options vest 4 years after the grant date which is one year after the end of the current year. The tax rate is 30%. Using the (modified ) treasury stock method, how many incremental shares outstanding(d) result from the issue and buyback? Round your answer to the nearest whole share.

Explanation / Answer

The treasury stock method affects the denominator of the EPS equation. The method assumes the proceeds from exercised options would be used to repurchase outstanding stock, therefore the net number of shares added to the denominator is less than the additional shares that would be outstanding from exercised options.

Outstanding no. of share = 1000

Exercise Price = $20

Current Market Price of the share = $30

Using the treasury stock method, we would compute an incremental number of shares to be added to the denominator. The proceeds from the exercise of the options would be

$20000 (1000x20)

Using the proceeds of $20000 to purchase stock at $30 per share would result in the purchase of 666 shares ($20000/$30).

The incremental number of shares would be:

Shares under option 1000

Shares repurchased 666

Incremental shares 334

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