In the Basic EPS formula, the subtraction of preferred dividends is done to determine earnings available to which shareholders?

In the Basic EPS formula, the subtraction of preferred dividends is done to determine earnings available to which shareholders?

• A. To calculate diluted EPS
• B. To adjust for taxes
• C. To adjust for dividends paid to common stockholders
• D. To determine earnings available to common shareholders

Answer: (D)

The subtraction of preferred dividends in Basic EPS isolates the portion of earnings that actually belongs to common shareholders. Since preferred shareholders have priority over common shareholders for dividends, the company must first pay the preferred dividends; the remaining earnings are what’s available to common stockholders. That’s why the numerator in Basic EPS is net income minus preferred dividends, and the denominator is the weighted-average number of common shares outstanding. Other options don’t reflect who the remaining earnings are intended for after meeting preferred obligations.

The subtraction of preferred dividends in Basic EPS isolates the portion of earnings that actually belongs to common shareholders. Since preferred shareholders have priority over common shareholders for dividends, the company must first pay the preferred dividends; the remaining earnings are what’s available to common stockholders. That’s why the numerator in Basic EPS is net income minus preferred dividends, and the denominator is the weighted-average number of common shares outstanding. Other options don’t reflect who the remaining earnings are intended for after meeting preferred obligations.