Performance Apparel Inc. (PA) is a retailer of sports apparel and footwear. PAs operations are based in Beaverton, Oregon, with retail stores located throughout the country. In an effort to motivate certain members of senior management to execute consistently with PAs long-term financial performance plan, it decided to issue performance-based restricted stock units (RSUs) on January 1, 2017. At this time, PA issued 100,000 RSUs to the employees covered by the plan.

RSUs are a form of compensation offered by an employer in the form of company stock. These shares of company stock are restricted in that they vest only after certain conditions (restrictions) are met. The shares are earned or vested based on a vesting schedule consistent with the satisfaction of these conditions. Vesting schedules are specific to each award and can be based on various conditions such as service (remaining with the employer for a certain period of time), performance milestones (such as meeting sales goals), or a combination.

These RSUs vest on the basis of continued employment after three years, with the number of RSUs earned and issued at the end of the three-year vesting period, if any, dependent on the performance condition of an average annual increase in operating margin of at least 5%.

An additional concern of PA relates to a recent business combination. In the acquisition of Jones Shoes Inc., PA provided two forms of contingent consideration to Jones shareholders. First, PA would issue an additional 600 shares of stock for any new retail outlets opened during 2017. These shares would be issued at the date the retail unit opened. Second, PA would issue 20 additional shares for every full $1,000 increment in which 2017 operating income exceeded $400,000. These shares would be issued when the 2017 operating income had been finalized.

PA began 2017 with 1,500,000 shares of common stock issued and outstanding. During 2017, there were no stock transactions other than what has been discussed. PA opened new retail outlets on March 1, June 1, and October 1. The 2017 operating income is determined to be 485,600 on February 5, 2018. Operating margin for 2017 was 7% higher than the operating margin of 2016.

Since PA has not previously issued these types of awards or contingent issuance agreements, it does not have knowledge of the relevant accounting literature and guidance on how these contingently issuable shares should be accounted for in their diluted earnings per share (EPS) calculation. Accordingly, as PAs external auditor, management has asked for your assistance with its financial statements as of and for the year ended December 31, 2017.

Required:

1. Write an explanation of how each of these contingent issuances should be handled in calculating 2017 EPS. Be sure to cite appropriate authoritative support where necessary.

2. Determine the number of shares used to calculate basic and diluted EPS for 2017. Show your work