What is the general rule for fully diluted shares when evaluating dilutive securities?

• A. Fully diluted shares assume all dilutive securities are ignored.
• B. Only one type of security is considered at a time.
• C. All in-the-money dilutive securities are assumed to be exercised or converted.
• D. Convertible securities are never included in fully diluted shares.

Answer: (C)

The main idea is to show how many shares could exist if every potential source of dilution were actually exercised or converted. The best rule is to assume that all in-the-money dilutive securities are exercised or converted. This captures the maximum potential impact on the total share count and on earnings per share under current conditions. For options and warrants, this typically uses the treasury stock method: the exercise would add new shares, and the cash raised would be used to buy back some shares, limiting the net increase. For convertible debt or preferred stock, you assume conversion into common shares if doing so would be dilutive at the current price. Securities that are out-of-the-money aren’t included because there’s no immediate incentive to exercise or convert at the current price. This approach provides a realistic view of dilution; ignoring these securities, treating only one type at a time, or excluding convertible securities would underestimate the potential impact on shares outstanding and EPS.