EITF
D-42 The Effect on the Calculation of Earnings per Share for the Redemption or
Induced Conversion of Preferred Stock [Superseded by FASB Codification
9/15/2009]




Copyright
© 2005 by Financial Accounting Standards Board, Norwalk,
Connecticut




Dates Discussed: January 20,
1994; November 17, 1994; September 11-12, 2002; July 31, 2003




The SEC
Observer made the following announcement of the SEC staff's position on the
effect on the calculation of earnings per share for the redemption or induced
conversion of preferred stock.




The SEC
staff has noted an increase in the number of registrants that are either
redeeming outstanding shares of preferred stock for cash, other securities
issued by the registrant, or other consideration or inducing the conversion of
outstanding shares of preferred stock into other securities issued by the
registrant.




The SEC
staff has been asked whether the redemption or induced conversion of preferred
stock would have an impact on the determination of net earnings available to
common shareholders in the calculation of earnings per share.




If a
registrant redeems its preferred stock, the SEC staff believes that the excess
of (1) fair value of the consideration transferred to the holders of the
preferred stock over (2) the carrying amount of the preferred stock in the
registrant's balance sheet should be subtracted from net earnings to arrive at
net earnings available to common shareholders in the calculation of earnings per
share. [Note: See Subsequent Developments section below.] The staff believes
that the excess of the fair value of the consideration transferred to the
holders of the preferred stock over the carrying amount of the preferred stock
in the registrant's balance sheet represents a return to the preferred
stockholder and, therefore, should be treated in a manner similar to the
treatment of dividends paid to the holders of the preferred stock in the
calculation of earnings per share. Dividends on preferred stocks are deducted
from net earnings to arrive at net earnings available to common shareholders.
(Likewise, an excess of the carrying amount of preferred stock over the fair
value of the consideration transferred to the holders of the preferred stock
would be added to net earnings to arrive at net earnings available to common
shareholders.)




If
convertible preferred stock is converted to other securities issued by the
registrant pursuant to an inducement offer, the staff believes that the excess
of (1) the fair value of all securities and other consideration transferred in
the transaction by the registrant to the holders of the convertible preferred
stock over (2) the fair value of securities issuable pursuant to the original
conversion terms should be subtracted from net earnings to arrive at net
earnings available to common shareholders in the calculation of earnings per
share. Registrants should look to the guidance provided in FASB Statement No.
84, Induced Conversions of
Convertible Debt, to determine whether the conversion of preferred stock
is pursuant to an inducement offer.





The staff
would expect registrants to comply with the staff's views on these transactions
beginning with transactions, or offers of transactions, announced on or after
January 20, 1994.




Subsequent
Developments




At the
November 17, 1994 meeting, the SEC Observer responded to an inquiry from a Task
Force member concerning the SEC staff announcement above. The inquiry related to
accounting for the redemption of an “in-the-money” convertible preferred stock
(in other words, the underlying common stock appreciated since the date of
issuance). The SEC Observer stated that the guidance in the above announcement
covering redemptions of preferred stock applies to all classes of preferred
stock and that the entire excess of the redemption amount over the carrying
amount should be deducted from earnings available to common
stockholders.




At the
September 18-19, 1996 meeting, the SEC Observer made an announcement of the SEC
staff's position on the computation of earnings per share for a period that
includes a redemption or an induced conversion of a portion of a class of
preferred stock. (See Topic D-53 for details of the announcement.)




At the
September 11-12, 2002 meeting, the Task Force reached a consensus on Issue No.
02-15, “Determining Whether Certain Conversions of Convertible Debt to Equity
Securities Are within the Scope of FASB Statement No. 84,” that Statement 84
applies to all conversions of convertible debt that (1) occur pursuant to
changed conversion privileges that are exercisable only for a limited period of
time and (2) include the issuance of all of the equity securities issuable
pursuant to conversion privileges included in the terms of the debt at issuance
for each debt instrument that is converted, regardless of the party that
initiates the offer or whether the offer relates to all debt
holders.




In May
2003, the FASB issued FASB Statement No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity. The Statement
establishes standards for how an issuer classifies and measures in its statement
of financial position certain financial instruments with characteristics of both
liabilities and equity. It requires that an issuer classify a financial
instrument that is within its scope as a liability (or as an asset in some
circumstances) because that financial instrument embodies an obligation of the
issuer. Statement 150 was issued in May 2003 and, for public entities, is
effective for all financial instruments entered into or modified after May 31,
2003, and otherwise effective at the beginning of the interim period beginning
after June 15, 2003.




The
guidance contained in this announcement is partially nullified by Statement 150.
Statement 150 requires that mandatorily redeemable preferred stock, as defined
in the scope of that Statement, be classified as a liability. Consequently, when
a registrant redeems mandatorily redeemable preferred stock, the excess
(shortfall) of the fair value transferred over (under) the carrying amount of
the preferred stock would be accounted for as a loss (gain) on extinguishment of
debt and reflected in the registrant's net income (and thus in the numerator
when calculating earnings per share). Statement 150 does not impact the SEC
staff's views, as expressed above, regarding preferred stock or convertible
preferred stock that is not mandatorily redeemable as defined in Statement
150.





At the
July 31, 2003 meeting, the SEC Observer clarified that for the purposes of
calculating the excess of (1) the fair value of the consideration transferred to
the holders of the preferred stock over (2) the carrying amount of the preferred
stock in the registrant's balance sheet, the carrying amount of the preferred
stock should be reduced by the issuance costs of the preferred stock, regardless
of where in the stockholders' equity section those costs were initially
classified on issuance. This clarification of Topic D-42 should be reflected
retroactively in financial statements for reporting periods ending after
September 15, 2003, by restating the financial statements of prior periods in
accordance with the provisions of paragraphs 27-30 of APB Opinion No. 20,
Accounting Changes. Earlier application is encouraged.




Copyright
© 2005 by Financial Accounting Standards Board, Norwalk,
Connecticut




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