1.1 Definitions

IAS 33 defines a number of its terms and these are dealt with in the text of this chapter where appropriate. One term which is particularly pervasive is ‘fair value’. This term is defined and explained in IFRS 13 – Fair Value Measurement – and is discussed in Chapter 14. [IAS 33.8]. However, in the context of share-based payments the term fair value has the meaning used in IFRS 2 – Share-based Payment. The relevance of share-based payment to EPS is discussed at 6.4.5 below; IFRS 2 is discussed in Chapter 34. [IAS 33.47A].

2.1 Objective

IAS 33 sets out its objective as follows: ‘to prescribe principles for the determination and presentation of earnings per share, so as to improve performance comparisons between different entities in the same reporting period and between different reporting periods for the same entity. Even though earnings per share data have limitations because of the different accounting policies that may be used for determining “earnings”, a consistently determined denominator enhances financial reporting. The focus of this Standard is on the denominator of the earnings per share calculation.’ [IAS 33.1].

The standard requires the computation of both basic and diluted EPS, explaining the objective of each as follows:

• the objective of basic earnings per share information is to provide a measure of the interests of each ordinary share of a parent entity in the performance of the entity over the reporting period; [IAS 33.11] and
• the objective of diluted earnings per share is consistent with that of basic earnings per share – to provide a measure of the interest of each ordinary share in the performance of an entity – while giving effect to all dilutive potential ordinary shares outstanding during the period. [IAS 33.32].

The underlying logic here is that EPS, including diluted EPS, should be an historical performance measure. This impacts particularly on the reporting of diluted EPS, in steering it away from an alternative purpose: to warn of potential future dilution. Indeed the tension between these differing objectives is evident in the standard. As discussed more fully at 6.4.6 below, IAS 33 sets out a very restrictive regime for including certain potentially dilutive shares in the diluted EPS calculation. Yet diluted EPS is only to take account of those potential shares that would dilute earnings from continuing operations (see 6.3.1 below) which seems to have more of a forward looking ‘warning signal’ flavour. Discontinued operations are discussed in Chapter 4.

2.2 Scope

IAS 33 applies to:

1. the separate or individual financial statements of an entity:
   1. whose ordinary shares or potential ordinary shares are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local and regional markets); or
   2. that files, or is in the process of filing, its financial statements with a securities commission or other regulatory information for the purpose of issuing ordinary shares in a public market; and
2. the consolidated financial statements of a group with a parent:
   1. whose ordinary shares or potential ordinary shares are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local and regional markets); or
   2. that files, or is in the process of filing, its financial statements with a securities commission or other regulatory information for the purpose of issuing ordinary shares in a public market. [IAS 33.2].

IAS 33 also applies to any other entity that discloses earnings per share. [IAS 33.3]. Where both the parent's consolidated and separate financial statements are presented, the standard only requires consolidated earnings per share to be given. If the parent chooses to present EPS data based on its separate financial statements the standard requires that the disclosures be restricted to the face of the parent-only statement of comprehensive income (or separate income statement) and not be included in the consolidated financial statements. [IAS 33.4].

In January 2014, the IASB published IFRS 14 – Regulatory Deferral Accounts. This standard allows a first-time adopter within its scope to continue to account for regulatory deferral account balances in its first IFRS financial statements in accordance with its previous GAAP when it adopts IFRS. The standard introduces limited changes to some previous GAAP accounting practices for regulatory deferral account balances, which are primarily related to the presentation of these accounts. For entities applying IFRS 14 certain additional EPS disclosures are required. This is discussed in Chapter 5 at 5.20.6.A.II.

3.1 Earnings

The starting point for determining the earnings figure to be used in the basic EPS calculation (both for total earnings and, if appropriate, earnings from continuing operations) is the net profit or loss for the period attributable to ordinary equity holders. [IAS 33.12]. This will, in accordance with IAS 1 – Presentation of Financial Statements – include all items of income and expense, including, dividends on preference shares classified as liabilities and tax and is stated after the deduction of non-controlling interests. [IAS 33.13, A1]. This is then adjusted for the after-tax amounts of preference dividends, differences arising on the settlement of preference shares, and other similar effects of preference shares classified as equity. [IAS 33.12]. These adjustments are discussed at 5.2 below.

3.2 Number of shares

An ordinary share is defined as ‘an equity instrument that is subordinate to all other classes of equity instruments’. [IAS 33.5]. ‘Equity instrument’ has the same meaning as in IAS 32 – Financial Instruments: Presentation – that is ‘any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities’. [IAS 33.8, IAS 32.11]. IAS 33 goes on to observe that ordinary shares participate in profit for the period only after other types of share such as preference shares have participated. [IAS 33.6]. The standard also clarifies that there may be more than one class of ordinary share and requires the computation and presentation of EPS for each class that has a different right to share in profit for the period. [IAS 33.6, 66]. In practice, it is usually straightforward to determine which instruments are ordinary shares for EPS purposes. The treatment of different classes of shares is discussed at 5.4 below.

The basic rule in IAS 33 is that all outstanding ordinary shares are brought into the basic EPS computation – time-weighted for changes in the period (changes in ordinary shares are discussed at 4 below). [IAS 33.19]. There are three exceptions to this:

• ordinary shares that are issued as partly paid are included in the weighted average as a fraction of a share based on their dividend participation relative to fully paid shares (so if although only partly paid, they ranked equally for dividends they would be included in full); [IAS 33.A15]
• treasury shares, which are presented in the financial statements as a deduction from equity, are not considered outstanding for EPS purposes for the period they are held in treasury. Although not stated explicitly in the standard itself, this requirement is clearly logical (as although the shares are still legally in issue, they are accounted for as if redeemed) and is illustrated in one of the examples appended to the standard (see Example 37.1 at 4.1 below); [IAS 33.IE2] and
• shares that are contingently returnable (that is, subject to recall) are not treated as outstanding until they cease to be subject to recall, and hence are excluded from basic EPS until that time. [IAS 33.24].

The standard contains some specific guidance on when newly issued ordinary shares should be considered outstanding. In general, shares are to be included from the date consideration is receivable (considered by the standard generally to be the date of their issue), for example: [IAS 33.21]

• shares issued in exchange for cash are included when cash is receivable;
• shares issued on the voluntary reinvestment of dividends on ordinary or preference shares are included when the dividends are reinvested;
• shares issued as a result of the conversion of a debt instrument to ordinary shares are included as of the date interest ceases accruing;
• shares issued in place of interest or principal on other financial instruments are included as of the date interest ceases accruing;
• shares issued in exchange for the settlement of a liability of the entity are included as of the settlement date;
• shares issued as consideration for the acquisition of an asset other than cash are included as of the date on which the acquisition is recognised;
• shares issued in exchange for the rendering of services to the entity are included as the services are rendered; and
• shares that will be issued upon the conversion of a mandatorily convertible instrument are included in the calculation of basic earnings per share from the date the contract is entered into. [IAS 33.23].

Most of these provisions are straightforward, however some are worthy of note.

Shares issued in exchange for services will be accounted for in accordance with IFRS 2, with a charge to income matched by a credit to equity. IAS 33 has some guidance on the inclusion of such potential shares in diluted EPS (see 6.4.5 below); however there is no further elaboration of the meaning of ‘included as the services are rendered’. What seems to be implicit in the phrase is that the shares concerned vest unconditionally as services are rendered. On that basis, clearly it would be appropriate to include shares in basic EPS as entitlement to them vests, notwithstanding that the actual issue of shares may be at a different time. However, a very common form of share-based remuneration involves entitlement to shares vesting at the end of an extended period conditional on future events (typically continued employment and sometimes specific future performance). Such arrangements are clearly conditionally issuable shares and should be excluded from basic EPS until vesting. Indeed, when discussing employee share schemes in the context of diluted EPS the standard is explicit, as follows. ‘Employee share options with fixed or determinable terms and non-vested ordinary shares are treated as options in the calculation of diluted earnings per share, even though they may be contingent on vesting. They are treated as outstanding on the grant date. Performance-based employee share options are treated as contingently issuable shares because their issue is contingent upon satisfying specified conditions in addition to the passage of time.’ [IAS 33.48]. Contingently issuable shares are discussed at 6.4.6 below.

In respect of the final bullet point, the standard does not define what a mandatorily convertible instrument is. One view would be that the requirement to account for the shares in EPS from inception must mean it refers to instruments where the proceeds also are received at inception. On that basis, it would exclude a forward contract for the issue of shares which (as required by the first bullet above) would increase the denominator of basic EPS only from the time the cash is receivable. Similarly, in the reverse situation of a forward contract to redeem ordinary shares the shares would only be removed from basic EPS when the consideration becomes payable. Another view would be that all binding agreements to issue or redeem ordinary shares should be reflected in basic EPS when the entity becomes party to the arrangement. A further possible complexity is the question of whether or not a symmetrical treatment for the issue and redemption of shares should be applied for EPS purposes. Whilst that certainly seems logical, it is not beyond question in all circumstances particularly given the asymmetrical accounting treatment for certain derivatives over own shares required by IAS 32 (discussed in Chapter 47 at 5).

More generally, the standard goes on to say the timing of inclusion is determined by the attaching terms and conditions, and also that due consideration should be given to the substance of any contract associated with the issue. [IAS 33.21]. Ordinary shares that are issuable on the satisfaction of certain conditions (contingently issuable shares) are to be included in the calculation of basic EPS only from the date when all necessary conditions have been satisfied; in effect when they are no longer contingent. [IAS 33.24]. This provision is interpreted strictly, as illustrated in Example 7 appended to the standard (see Example 37.14 at 6.4.6.A below). In that example earnings in a year, by meeting certain thresholds, would trigger the issue of shares. Because it is not certain that the condition is met until the last day of the year (when earnings become known with certainty) the new shares are excluded from basic EPS until the following year. Where shares will be issued at some future date (that is, solely after the passage of time) they are not considered contingently issuable by IAS 33, as the passage of time is a certainty. [IAS 33.24]. In principle, this would seem to mean that they should be included in basic EPS from the agreement date. However, careful consideration of the individual facts and circumstances would be necessary.

The calculation of the basic EPS is often simple but a number of complications can arise; these may be considered under the following two headings:

1. changes in ordinary shares outstanding; and
2. matters affecting the numerator.

These are discussed in the next two sections.

4.1 Weighted average number of shares

Implicit in the methodology of IAS 33 is a perceived correlation between the capital of an entity (or rather the income-generating assets it reflects) and earnings. Accordingly, to compute EPS as a performance measure requires adjusting the number of shares in the denominator to reflect any variations in the period to the capital available to generate that period's earnings. The standard observes that using the weighted average number of ordinary shares outstanding during the period reflects the possibility that the amount of shareholders' capital varied during the period as a result of a larger or smaller number of shares being outstanding at any time. The weighted average number of ordinary shares outstanding during the period is the number of ordinary shares outstanding at the beginning of the period, adjusted by the number of ordinary shares bought back or issued during the period multiplied by a time-weighting factor. The time-weighting factor is the number of days that the shares are outstanding as a proportion of the total number of days in the period; IAS 33 notes that a reasonable approximation of the weighted average is adequate in many circumstances. [IAS 33.20]. Computation of a weighted average number of shares is illustrated in the following example: [IAS 33.IE2]

The use of a weighted average number of shares is necessary because the increase in the share capital would have affected earnings only for that portion of the year during which the issue proceeds were available to management for use in the business.

4.2 Purchase and redemption of own shares

An entity may, if it is authorised to do so by its constitution and it complies with any relevant legislation, purchase or otherwise redeem its own shares. Assuming this is done at fair value, then the earnings should be apportioned over the weighted average share capital in issue for the year. This was illustrated in Example 37.1 at 4.1 above in relation to the purchase of treasury shares. If, on the other hand, the repurchase is at significantly more than market value then IAS 33 requires adjustments to be made to EPS for periods before buy-back. This is discussed at 4.3.5 below.

4.3 Changes in ordinary shares without corresponding changes in resources

IAS 33 requires the number of shares used in the calculation to be adjusted (for all periods presented) for any transaction (other than the conversion of potential ordinary shares) that changes the number of shares outstanding without a corresponding change in resources. [IAS 33.26]. This is also to apply when some, but not all, such changes have happened after the year-end but before the approval of the financial statements.

The standard gives the following as examples of changes in the number of ordinary shares without a corresponding change in resources:

1. a capitalisation or bonus issue (sometimes referred to as a stock dividend);
2. a bonus element in any other issue, for example a bonus element in a rights issue to existing shareholders;
3. a share split; and
4. a reverse share split (share consolidation). [IAS 33.27].

Another example not mentioned by the standard would be any bonus element in a buy-back, such as a put warrant involving the repurchase of shares at significantly more than their fair value. The adjustments required to EPS for each of these is discussed below.

As noted above, IAS 33 requires retrospective adjustment for all such events that happen in the reporting period. However, it only requires restatement for those in (a), (c) and (d) if they happen after the year-end but before the financial statements are authorised for issue. [IAS 33.64].

4.4 Options exercised during the year

Shares issued as a result of options being exercised should be dealt with on a weighted average basis in the basic EPS. [IAS 33.38]. Furthermore, options that have been exercised during the year will also affect diluted EPS calculations. If the options in question would have had a diluting effect on the basic EPS had they been exercised at the beginning of the year, then they should be considered in the diluted EPS calculation as explained in 6.4.2 below, but on a weighted average basis for the period up to the date of exercise. The exercise of options is a ‘conversion of potential ordinary shares’. The standard excludes such conversions from the general requirement (see 4.3 above) to adjust prior periods' EPS when a change in the number of shares happens without a corresponding change in resources. [IAS 33.26].

4.5 Post balance sheet changes in capital

The EPS figure should not reflect any changes in the capital structure occurring after the reporting period, but before the financial statements are authorised for issue, which was effected for fair value. This is because any proceeds received from the issue were not available for use during the period. However, EPS for all periods presented should be adjusted for any bonus element in certain post year-end changes in the number of shares, as discussed at 4.3 above. When this is done that fact should be disclosed. [IAS 33.64].

4.6 Issue to acquire another business

4.7 Adjustments to EPS in historical summaries

In order to ensure comparability of EPS figures, the previously published EPS figures for all periods presented in IFRS financial statements should be adjusted for subsequent changes in capital not involving full consideration at fair value (apart from the conversion of potential ordinary shares) in the manner described at 4.3 above. Often entities will include EPS figures in historical summaries (typically five years) in the analyses and discussions accompanying (but not part of) the financial statements. We believe that all such analyses need similar adjustments in order to be meaningful. We also believe that the resultant figures should be described as restated.

5.1 Earnings

The earnings figure on which the basic EPS calculation is based should be the consolidated net profit or loss for the year after tax, non-controlling interests and after adjusting for returns to preference shareholders that are not already included in net profit (as will be the case for preference shares classified as liabilities under IAS 32).

5.2 Preference dividends

The adjustments to net profit attributable to ordinary shareholders in relation to returns to preference shareholders should include:

• the after-tax amount of any preference dividends on non-cumulative preference shares declared in respect of the period; [IAS 33.14(a)]
• the after-tax amount of the preference dividends for cumulative preference shares required for the period, whether or not the dividends have been declared. This does not include the amount of any preference dividends for cumulative preference shares paid or declared during the current period in respect of previous periods; [IAS 33.14(b)]
• any original issue discount or premium on increasing rate preference shares which is amortised to retained earnings using the effective interest method. Increasing rate preference shares are those that provide: a low initial dividend to compensate an entity for selling them at a discount; or an above-market dividend in later periods to compensate investors for purchasing them at a premium (see Example 37.6 below); [IAS 33.15]
• the excess of the fair value of the consideration paid to shareholders over the carrying amount of the preference shares when the shares are repurchased under an entity's tender offer to the holders. As this represents a return to the holders of the shares (and a charge to retained earnings for the entity) it is deducted in calculating profit or loss attributable to ordinary equity holders of the parent entity; [IAS 33.16]
• the excess of the fair value of the ordinary shares or other consideration paid over the fair value of the ordinary shares issuable under the original conversion terms when early conversion of convertible preference shares is induced through favourable changes to the original conversion terms or the payment of additional consideration. This is a return to the preference shareholders, and accordingly is deducted in calculating profit or loss attributable to ordinary equity holders of the parent entity; [IAS 33.17] and
• any excess of the carrying amount of preference shares over the fair value of the consideration paid to settle them. This reflects a gain to the entity and is added in calculating profit or loss attributable to ordinary equity holders. [IAS 33.18].

The computation of EPS involving increasing rate preference shares is illustrated in the following example. [IAS 33.IE1].

5.3 Retrospective adjustments

Where comparative figures have been restated (for example, to correct a material error or as a result of a change in accounting policy), earnings per share for all periods presented should also be restated. [IAS 33.64].

5.4 Participating equity instruments and two class shares

As noted at 3.2 above, IAS 33 envisages entities having more than one class of ordinary shares and requires the calculation and presentation of EPS for each such class. [IAS 33.66]. Although perhaps not exactly obvious from the definition, some instruments that have a right to participate in profits are viewed by the standard as ordinary shares. The standard observes that the equity of some entities includes:

1. instruments that participate in dividends with ordinary shares according to a predetermined formula (for example, two for one) with, at times, an upper limit on the extent of participation (for example, up to, but not beyond, a specified amount per share); and
2. a class of ordinary shares with a different dividend rate from that of another class of ordinary shares but without prior or senior rights. [IAS 33.A13].

Whilst category (a) could encompass some participating preference shares (as illustrated in Example 37.7 below), not all participating preference shares would necessarily be treated as ordinary shares for EPS purposes. This is because the participation features of some instruments could mean that they are not subordinate to all other classes of equity instrument. The meaning of ordinary shares for EPS purposes is discussed at 3.2 above.

To calculate basic (and diluted) earnings per share:

1. profit or loss attributable to ordinary equity holders of the parent entity is adjusted (a profit reduced and a loss increased) by the amount of dividends declared in the period for each class of shares and by the contractual amount of dividends (or interest on participating bonds) that must be paid for the period (for example, unpaid cumulative dividends);
2. the remaining profit or loss is allocated to ordinary shares and participating equity instruments to the extent that each instrument shares in earnings as if all of the profit or loss for the period had been distributed. The total profit or loss allocated to each class of equity instrument is determined by adding together the amount allocated for dividends and the amount allocated for a participation feature; and
3. the total amount of profit or loss allocated to each class of equity instrument is divided by the number of outstanding instruments to which the earnings are allocated to determine the earnings per share for the instrument.

For the calculation of diluted earnings per share, all potential ordinary shares assumed to have been issued are included in outstanding ordinary shares. [IAS 33.A14]. This is discussed at 6.4 below.

Participating equity instruments and two-class ordinary shares are illustrated with the following example. [IAS 33.IE11].

5.5 Other bases

It is not uncommon for entities to supplement the EPS figures required by IAS 33 by voluntarily presenting additional amounts per share. For additional earnings per share amounts, the standard requires:

1. that the denominator used should be that required by IAS 33;
2. that basic and diluted amounts be disclosed with equal prominence and presented in the notes;
3. an indication of the basis on which the numerator is determined, including whether amounts per share are before or after tax; and
4. if the numerator is not reported as a line item in the statement of comprehensive income or separate statement of profit or loss, a reconciliation to be provided between it and a line item that is reported in the statement of comprehensive income. [IAS 33.73, 73A].

In September 2007 the IASB indicated that it intended, as part of the annual improvements project, to modify IAS 33 to prohibit the presentation of alternative EPS figures on the face of the statement of comprehensive income. [IAS 1.BC103]. However, that project was ultimately finalised without addressing this issue. As a result, alternative EPS figures may be (and, in practice, are) presented on the face of the statement of comprehensive income (or separate income statement) as well as in the notes, provided that basic and diluted amounts are similarly disclosed with equal prominence.

The prevalence, within the European Union, of reporting alternative EPS measures on the face of the income statement was a matter considered by the European Securities and Markets Authority (ESMA). In April 2018 it published a report entitled Enforcement and Regulatory Activities of Accounting Enforcers in 2017.

The report includes (at paragraph 31) the following: ‘Around 16% of issuers disclosed, in addition to basic and diluted earnings per share, amounts per share using a reported component of the statement of comprehensive income other than required by IAS 33.’ The document goes on to observe that of these, 54% presented the information ‘in the notes rather than on the face of the statement’.

From this we infer that, of the sample examined by ESMA, approximately half of entities disclosing alternative EPS presented the information on the face of the income statement.

6.1 The need for diluted EPS

The presentation of basic EPS seeks to show a performance measure, by computing how much profit an entity has earned for each of the shares in issue for the period. Entities often enter into commitments to issue shares in the future which would result in a change in basic EPS. IAS 33 refers to such commitments as potential ordinary shares, which it defines as ‘a financial instrument or other contract that may entitle its holder to ordinary shares’. [IAS 33.5].

Examples of potential ordinary shares given by IAS 33 are:

1. financial liabilities or equity instruments, including preference shares, that are convertible into ordinary shares;
2. options and warrants (whether accounted for under IAS 32 or IFRS 2);
3. shares that would be issued upon the satisfaction of conditions resulting from contractual arrangements, such as the purchase of a business or other assets. [IAS 33.7].

When potential shares are actually issued, the impact on basic EPS will be two-fold. First, the number of shares in issue will change; second, profits could be affected, for example by lower interest charges or the return made on cash inflows. Scenarios whereby such an adjustment to basic EPS is unfavourable are described by the standard as dilution, defined as ‘a reduction in earnings per share or an increase in loss per share resulting from the assumption that convertible instruments are converted, that options or warrants are exercised, or that ordinary shares are issued upon the satisfaction of specified conditions’. [IAS 33.5]. This potential fall in EPS is quantified by computing diluted EPS, and as a result:

1. profit or loss attributable to equity holders is increased by the after-tax amount of dividends and interest recognised in the period in respect of the dilutive potential ordinary shares and is adjusted for any other changes in income or expense that would result from the conversion of the dilutive potential ordinary shares; and
2. the weighted average number of ordinary shares outstanding is increased by the weighted average number of additional ordinary shares that would have been outstanding assuming the conversion of all dilutive potential ordinary shares. [IAS 33.32].

6.2 Calculation of diluted EPS

IAS 33 requires a diluted EPS figure to be calculated for the profit or loss attributable to ordinary equity holders of the parent and, if presented, profit or loss from continuing operations attributable to them. [IAS 33.30]. For these purposes, the profit or loss attributable to ordinary equity holders and the weighted average number of shares outstanding should be adjusted for the effects of all potential ordinary shares. [IAS 33.31]. In calculating diluted EPS, the number of shares should be that used in calculating basic EPS, plus the weighted average number of shares that would be issued on the conversion of all the dilutive potential ordinary shares into ordinary shares. As is the case for outstanding shares in the basic EPS calculation, potential ordinary shares should be weighted for the period they are outstanding. [IAS 33.36, 38]. Accordingly, potential ordinary shares:

• should be deemed to have been converted into ordinary shares at the beginning of the period or, if not in existence at the beginning of the period, the date of their issue; [IAS 33.36]
• which are cancelled or allowed to lapse should be included only for the period they are outstanding; and
• which convert into ordinary shares during the period are included up until the date of conversion (from which point they will be included in the basic EPS). [IAS 33.38].

The number of dilutive potential ordinary shares should be determined independently for each period presented, and not subsequently revisited. In particular, prior periods' EPS are not restated for changes in assumptions about the conversion of potential shares into shares. IAS 33 also stresses that the number of dilutive potential ordinary shares included in the year-to-date period is not a weighted average of the dilutive potential ordinary shares included in each interim computation. [IAS 33.37, 65]. This is illustrated in the comprehensive illustrative example accompanying IAS 33, the substance of which is reproduced in the appendix to this chapter.

6.3 Dilutive potential ordinary shares

Only those potential shares whose issue would have a dilutive effect on EPS are brought into the calculation. Potential ordinary shares are ‘antidilutive’ when their conversion to ordinary shares would increase earnings per share or decrease loss per share. [IAS 33.5, 43]. The calculation of diluted earnings per share should not assume conversion, exercise, or other issue of potential ordinary shares that would have an antidilutive effect on earnings per share. [IAS 33.43]. The standard gives detailed guidance for determining which potential shares are deemed to be dilutive, and hence brought into the diluted EPS calculation. This guidance covers the element of profit which needs to be diluted to trigger inclusion, and the sequence in which potential shares are tested to establish cumulative dilution. Each is discussed below.

6.4.1 Convertible instruments

In order to secure a lower rate of interest, entities sometimes attach benefits to loan stock, debentures or preference shares in the form of conversion rights. These permit the holder to convert his holding in whole or part into equity capital. The right is normally exercisable between specified dates. The ultimate conversion of the instrument will have the following effects:

1. there will be an increase in earnings by the amount of the interest (or items relating to preference shares) no longer payable. As interest is normally allowable for tax purposes, the effect on earnings may be net of a tax deduction relating to some or all of the items; and
2. the number of ordinary shares in issue will increase. The diluted EPS should be calculated assuming that the instrument is converted into the maximum possible number of shares. [IAS 33.49].

Convertible preference shares will be antidilutive whenever the amount of the dividend on such shares declared in or accumulated for the current period per ordinary share obtainable on conversion exceeds basic earnings per share. Similarly, convertible debt will be antidilutive whenever its interest (net of tax and other changes in income or expense) per ordinary share obtainable on conversion exceeds basic earnings per share. [IAS 33.50].

6.4.2 Options, warrants and their equivalents

6.4.3 Purchased options and warrants

IAS 33 states that a holding by an entity of options over its own shares will always be antidilutive because:

• put options would only be exercised if the exercise price were higher than the market price; and
• call options would only be exercised if the exercise price were lower than the market price.

Accordingly, the standard requires that such instruments are not included in the calculation of diluted EPS. [IAS 33.62].

However, depending upon the settlement mechanism and the share price at the beginning and end of the period, the option could have resulted in a gain being reported (see Chapter 47 at 5). It is therefore possible that the removal of any such gain from the numerator could have a greater dilutive effect than the reduction in the denominator and hence render the option dilutive. In that circumstance, the option should be included in the diluted EPS calculation.

6.4.4 Partly paid shares

As noted at 3.2 above, shares issued in partly paid form are to be included in the basic EPS as a fraction of a share, based on dividend participation. As regards diluted EPS they are to be treated, to the extent that they are not entitled to participate in dividends, as the equivalent of options or warrants. The unpaid balance is assumed to represent proceeds used to purchase ordinary shares. The number of shares included in diluted earnings per share is the difference between the number of shares subscribed and the number of shares assumed to be purchased. [IAS 33.A16]. The mechanics of this treatment are not further spelt out in the standard, but the phrase ‘treated as a fraction of an ordinary share’ is not repeated. Instead, it is ‘the number of shares subscribed’ which the standard says should be compared to the number assumed purchased to measure dilution. However, ‘the number of shares subscribed’ is not defined. Whilst this could be read to mean that the remaining unpaid consideration is to be treated as the exercise price for options over all of the shares issued in partly paid form, we believe the better interpretation is that the unpaid capital should be viewed as the exercise price for options over the proportion of the shares not reflected in the basic EPS. This would mean that if the average share price for the period were the same as the total issue price, then no dilution would be reported. Furthermore, an issue of partly paid shares, say 50% paid with 50% dividend entitlement is economically identical to an issue of half the quantity as fully paid (with full dividend entitlement) and a forward contract for the remaining half. In that scenario, the issued shares would be incorporated into the basic and diluted EPS in full from the date of issue. The forward contract would be included in diluted EPS calculation by comparing the contracted number of shares with the number of shares that could be bought out of proceeds based on the average share price for the period. In our view, these economically identical transactions should produce the same diluted EPS – that would be achieved by interpreting ‘the number of shares subscribed’ as the number economically subscribed, i.e. the proportion of part-paid shares not already included in basic EPS.

An illustration of what the calculation would look like is as follows:

The example assumes the fair value of the shares over the year is higher than the issue price, which explains why some extra shares are included in the diluted EPS. If the average fair value remained at the issue price of 50c then no additional shares would be included for diluted EPS.

6.4.5 Share-based payments

Share options and other incentive schemes are a common feature of employee remuneration, and can come in many forms. For diluted EPS purposes, IAS 33 identifies two categories and specifies the diluted EPS treatment for each. The categories are:

1. performance-based employee share options; and
2. employee share options with fixed or determinable terms and non-vested ordinary shares. [IAS 33.48].

Before moving on to the diluted EPS treatment, it is worth noting an issue that arises from the way IAS 33 phrases this categorisation and subsequent guidance. Although not clearly stated in the standard, we believe all schemes should be treated as either category (a) or category (b). Any arrangements where entitlement is subject to future performance would fall into category (a) with category (b) being the default for all other arrangements.

Schemes in the first category are to be treated as contingently issuable shares (see 6.4.6 below) because their issue is contingent upon satisfying specified conditions in addition to the passage of time. [IAS 33.48].

Those in the second category are to be treated as options (see 6.4.2 above). They should be regarded as outstanding from the grant date, even if they vest, and hence can be realised by the employees, at some later date. [IAS 33.48]. An example would be an unexpired loyalty period. This means that some shares may be included in diluted EPS which never, in fact, get issued to employees because they fail to remain with the company for this period. Furthermore, for share options and other share-based payment arrangements to which IFRS 2 applies, the proceeds figure to be used in calculating the dilution under such schemes should include the fair value (as determined in accordance with IFRS 2) of any goods or services to be supplied to the entity in the future under the arrangement. [IAS 33.47A]. An example illustrating the latter point is as follows: [IAS 33.IE5A]

Whilst the standard requires that the additional deemed proceeds is the fair value of goods or services yet to be received, the example clarifies that it is the IFRS 2 expense yet to be charged to income.

What this requirement seeks to reflect is that for such options the issuer will receive not just the cash proceeds (if any) under the option when it is exercised but also valuable goods and services over its life. This will result in the dilutive effect of the options increasing over time as the deemed proceeds on exercise of the options reduces.

6.4.6 Contingently issuable shares

IAS 33 contains considerable detailed guidance, including a numerical worked example, on contingently issuable shares. Contingently issuable ordinary shares are defined as ‘ordinary shares issuable for little or no cash or other consideration upon satisfaction of specified conditions in a contingent share agreement.’ A contingent share agreement is defined by the standard as ‘an agreement to issue shares that is dependent on the satisfaction of specified conditions.’ [IAS 33.5]. The basic rule is that the number of contingently issuable shares to be included in the diluted EPS calculation is ‘based on the number of shares that would be issuable if the end of the period were the end of the contingency period’. [IAS 33.52]. This requirement to look at the status of the contingency at the end of the reporting period, rather than to consider the most likely outcome, seems to have the overall result of reducing the amount of dilution disclosed.

The discussions in the standard cover three broad categories: earnings-based contingencies, share price-based contingencies, and other contingencies. These are discussed in turn below.

The number of shares contingently issuable may depend on future earnings and future prices of the ordinary shares. In such cases, the standard makes clear that the number of shares included in the diluted EPS calculation is based on both conditions (i.e. earnings to date and the current market price at the end of the reporting period). In other words, contingently issuable shares are not included in the diluted EPS calculation unless both conditions are met. [IAS 33.55].

6.4.7 Potential ordinary shares of investees

A subsidiary, joint venture or associate may issue to parties other than the parent or investors with joint control of, or significant influence over the investee potential ordinary shares that are convertible into either ordinary shares of the subsidiary, joint venture or associate, or ordinary shares of the parent or investors with joint control of, or significant influence over the investee (the reporting entity). If these potential ordinary shares of the subsidiary, joint venture or associate have a dilutive effect on the basic EPS of the reporting entity, they should be included in the calculation of diluted earnings per share. [IAS 33.40].

The standard requires that such potential ordinary shares should be included in the calculation of diluted EPS as follows:

1. instruments issued by a subsidiary, joint venture or associate that enable their holders to obtain ordinary shares of the subsidiary, joint venture or associate should be included in calculating the diluted EPS data of the subsidiary, joint venture or associate. Those EPS are then included in the reporting entity's EPS calculations based on the reporting entity's holding of the instruments of the subsidiary, joint venture or associate; and
2. instruments of a subsidiary, joint venture or associate that are convertible into the reporting entity's ordinary shares should be considered among the potential ordinary shares of the reporting entity for the purpose of calculating diluted EPS. Similarly, options or warrants issued by a subsidiary, joint venture or associate to purchase ordinary shares of the reporting entity should be considered among the potential ordinary shares of the reporting entity in the calculation of consolidated diluted EPS. [IAS 33.A11].

For the purpose of determining the EPS effect of instruments issued by a reporting entity that are convertible into ordinary shares of a subsidiary, joint venture or associate, the standard requires that the instruments are assumed to be converted and the numerator (profit or loss attributable to ordinary equity holders of the parent entity) adjusted as necessary in accordance with the normal rules (see 6.2.1 above). In addition to those adjustments, the numerator is adjusted for any change in the profit or loss recorded by the reporting entity (such as dividend income or equity method income) that is attributable to the increase in the number of ordinary shares of the subsidiary, joint venture or associate outstanding as a result of the assumed conversion. The denominator of the diluted EPS calculation is not affected because the number of ordinary shares of the reporting entity outstanding would not change upon assumed conversion. [IAS 33.A12].

The computation under (a) above is illustrated in the following example. [IAS 33.IE10].

6.4.8 Contingently issuable potential ordinary shares

The standard requires that contingently issuable potential ordinary shares (other than those covered by a contingent share agreement, such as contingently issuable convertible instruments) to be included in the diluted EPS calculation as follows:

1. determine whether the potential ordinary shares may be assumed to be issuable on the basis of the conditions specified for their issue in accordance with the provisions of the standard for contingent ordinary shares (see 6.4.6 above); and
2. if those potential ordinary shares should be reflected in diluted EPS, determine their impact on the calculation of diluted earnings per share by following the provisions of the standard for that type of potential ordinary share.

However, exercise or conversion is not to be assumed for the purpose of calculating diluted earnings per share unless exercise or conversion of similar outstanding potential ordinary shares that are not contingently issuable is assumed. [IAS 33.57].

7.1 Presentation

As discussed in Chapter 3 at 3.2.1, IAS 1 requires that all items of income and expense be presented either:

1. in a single statement of profit or loss and comprehensive income; or
2. in two separate statements:
   1. a statement of profit or loss; and
   2. a statement, beginning with profit or loss, presenting items of other comprehensive income. [IAS 1.10A].

If the approach in (b) is followed, the separate statement of profit or loss must be displayed immediately before the statement of comprehensive income. [IAS 1.10A].

If (a) is adopted, the EPS presentational requirements below apply to that single statement. If (b) is chosen, the requirements apply to the separate statement of profit or loss only and not the separate statement of comprehensive income. [IAS 33.4A, 67A, 68A].

IAS 33 requires the presentation of basic and diluted EPS (with equal prominence and even if the amounts are negative – i.e. a loss per share) for each period for which a statement of comprehensive income (or separate income statement) is presented. [IAS 33.66, 69]. This is required for the profit or loss attributable to ordinary equity holders for:

1. overall profit;
2. profit or loss from continuing operations; and
3. profit or loss from discontinued operations, if any. [IAS 33.66, 68].

In the case of (a) and (b), separate figures are required for each class of ordinary shares with a different right to share in profits for the period. The figures for (a) and (b) must be displayed on the face of the statement. [IAS 33.66]. Those for (c) may be either on the face or in the notes. [IAS 33.68]. The standard states that if diluted EPS is given for at least one period it must be given for all periods presented. IAS 33 notes that if basic and diluted EPS are equal, dual presentation can be accomplished in one line in the statement. [IAS 33.67].

Regarding (c), the wording of the standard is not very clear. In particular, if an entity has more than one discontinued operation it does not specify whether separate EPS disclosures are required for each or whether one aggregate figure is needed. The wording leans to the former, as it uses the singular – ‘An entity that reports a discontinued operation shall disclose the basic and diluted amounts per share for the discontinued operation …’. However, IFRS 5 – Non-current Assets Held for Sale and Discontinued Operations – only requires the statement of comprehensive income (or separate income statement) to identify the total result from all discontinued operations. [IFRS 5.33]. In light of this, we believe aggregate figures are acceptable.

The presentation of EPS data in addition to that required by IAS 33 is discussed at 5.5 above.

7.2 Restatement

IAS 33 contains requirements to restate prior periods' EPS for events that change the number of shares outstanding without a corresponding change in resources. Additionally it specifies circumstances when EPS should not be restated.

Basic and diluted EPS for all periods presented should be adjusted for:

• events (other than the conversion of potential ordinary shares) which change the number of ordinary shares without a corresponding change in resources (discussed at 4.3 above); [IAS 33.26, 64]
• the effects of errors and adjustments resulting from changes in accounting policies accounted for retrospectively (see 5.3 above); [IAS 33.64] and
• the effects of group reorganisations that are accounted for as a pooling of interests (discussed at 4.6 above).

No adjustment should be made:

• to basic or diluted EPS when a share consolidation is combined with a special dividend where the overall commercial effect is that of a share repurchase at fair value (discussed at 4.3.2 above); [IAS 33.29]
• to previously reported diluted EPS due to changes in the prices of ordinary shares which would have given a different dilutive effect for options and warrants; [IAS 33.47]
• to prior period diluted EPS as a result of a contingency period coming to an end without the conditions attaching to contingently issuable shares being met; [IAS 33.52] or
• to prior period diluted EPS for changes in the assumptions used in the calculations or for the conversion of potential ordinary shares into ordinary shares. [IAS 33.65].

7.3 Disclosure

IAS 33 requires disclosure of the following:

1. the amounts used as the numerators in calculating basic and diluted EPS, and a reconciliation of those amounts to profit or loss attributable to the parent entity for the period. The reconciliation should include the individual effect of each class of instruments that affects EPS;
2. the weighted average number of ordinary shares used as the denominator in calculating basic and diluted earnings per share, and a reconciliation of these denominators to each other. The reconciliation should include the individual effect of each class of instruments that affects EPS;
3. instruments (including contingently issuable shares) that could potentially dilute basic EPS in the future, but were not included in the calculation because they were antidilutive for the period(s) presented; and
4. a description of ordinary share transactions or potential ordinary share transactions (other than those accounted for in EPS for the year – see 4.3 above – in which case that fact should be stated), that occur after the end of the reporting period and that would have changed significantly the number of ordinary shares or potential ordinary shares outstanding at the end of the period if those transactions had occurred before the end of the reporting period. [IAS 33.70].

Examples of transactions in (d) include:

1. an issue of shares for cash;
2. an issue of shares when the proceeds are used to repay debt or preference shares outstanding at the end of the reporting period;
3. the redemption of ordinary shares outstanding;
4. the conversion or exercise of potential ordinary shares outstanding at the end of the reporting period into ordinary shares;
5. an issue of options, warrants, or convertible instruments; and
6. the achievement of conditions that would result in the issue of contingently issuable shares.

The standard observes that EPS amounts are not adjusted for such transactions occurring after the reporting period because such transactions do not affect the amount of capital used to produce profit or loss for the period. [IAS 33.71]. Changes in ordinary shares are discussed at 4 above.

The standard observes that financial instruments and other contracts generating potential ordinary shares may incorporate terms and conditions that affect the measurement of basic and diluted earnings per share. These terms and conditions may determine whether any potential ordinary shares are dilutive and, if so, the effect on the weighted average number of shares outstanding and any consequent adjustments to profit or loss attributable to ordinary equity holders. The disclosure of the terms and conditions of such financial instruments and other contracts is encouraged by IAS 33, if not otherwise required by IFRS 7 – Financial Instruments: Disclosures (discussed in Chapter 54). [IAS 33.72].