### CFA Practice Question

There are 534 practice questions for this study session.

### CFA Practice Question

BWT Inc. shows the following data in its financial statements at the end of the year. Assume all securities were outstanding at the beginning of the year:

• 6.125% convertible bond, convertible into 33 shares of common stock. Issue price \$1,000, 100 bonds outstanding.
• 6.25% convertible preferred stock, \$100 par, 2,315 shares outstanding. Convertible into 3.3 shares of common stock, issue price \$100.
• 8% convertible preferred stock, \$100 par, 2,572 shares outstanding. Convertible into 5 common shares, issue price \$80.
• 9,986 warrants are outstanding with an exercise price of \$38. Each warrant is convertible into 1 share of common stock.
• Average market price of common stock is \$52.00 per share.
• Common shares outstanding at the beginning of the year were 40,045.
• Net income for the period was \$200,000 while the tax rate was 40%.

What was the after-tax interest charge?
A. \$3,675
B. \$6,215
C. \$2,450
Explanation: (0.06125)(1,000)(100) (6,125)(1 - 0.4) = 3,675

User Comment
jimmymh how come we didn't use convertible preferred bond?
swift not taxable in first place
mm05 Why is the convertible bond not converted?
robbe1 I agree with mm05. Why is the interest on the convertible preferred bond ignored? White et al. doesn't refer to these securities. Should we characterise them as preferred stock? Anyone?
o123 the c preferred bonds are not added back to the numerator for the diluted EPS because they are not viewed as interest.
If you were calculating the Numerator for Basic EPS, you would subtract the pref Bonds just as you would preferred dividends. unlike interest, which is already accounted for in NI.
steved333 Even if the bond is converted, the interest is still the same. Preferred bond interest is treated like a preferred dividend.
aakash1108 If someone noticed - Only the Bonds are outstanding.

Rest all instruments are either Shares Outstanding or Warrants Outstanding.
Example:
2,315 shares outstanding
2,572 shares outstanding
9,986 warrants are outstanding

Only the first item is Bonds Outstanding as in:
100 bonds outstanding
(100 Bonds X \$1000 Issue price) = \$100,000
The interest Expense before TAX = \$100,000 X 6.125%= \$6,125
The Interest Expense after TAX = \$6,125 X(1-Tax Rate) = \$6,125 X (1-0.40)=\$6,125 X 0.60 = \$3,675.

Hope this clears!
Lamkerst In this case we have to assume that 6.125% convertible bonds pay annual coupon.
ecapocas Correct me if I'm wrong, but I also believe that preferred dividends are not technically speaking "interest" payments under GAAP. They're just dividends even if they are valued as fixed income securities.