Notes to Consolidated Financial Statements 38 The Procter & Gamble Company and Subsidiaries anticipated inventory purchases, the Company uses futures and options  with maturities generally less than one year and swap contracts with maturities up to five years. These market instruments are designated as cash flow hedges under SFAS No. 133. Accordingly, the  mark-to-market gain or loss on qualifying hedges is reported in OCI and  reclassified into cost of products sold in the same period or periods  during which the hedged transaction affects earnings. Qualifying cash  flow hedges currently recorded in OCI are not considered material. The  mark-to-market gain or loss on non-qualifying, excluded and ineffective  portions of hedges is immediately recognized in cost of products sold.  Commodity hedging activity was not material to the Company’s financial statements for the years ended June 30, 2002 and 2001. The Company has stock-based compensation plans under which stock  options are granted annually to key managers and directors at the market price on the date of grant. Grants were made under stock-based  compensation plans approved by shareholders in 1992 and 2001.  Grants issued since 1998 are fully exercisable after three years and  have a fifteen-year life, while prior years’ grants are fully exercisable after one year and have a ten-year life. Pursuant to SFAS No. 123, “Accounting for Stock-Based Compensa- tion,” the Company has elected to account for its employee stock option plans under APB Opinion No. 25, “Accounting for Stock Issued to  Employees,” which recognizes expense based on intrinsic value at date  of grant. As stock options have been issued with exercise prices equal  to grant date fair value, no compensation cost has resulted. Had compensation cost for the plans been determined based on the fair value at grant date consistent with SFAS No. 123, the Company’s net  earnings and earnings per common share would have been as follows: Net earnings less preferred dividends (net of related tax benefits) are  divided by the weighted average number of common shares outstand- ing during the year to calculate basic net earnings per common share.  Diluted net earnings per common share is calculated to give effect to  stock options and convertible preferred stock. The dilutive effect of outstanding employee stock options is reflected by application of the  treasury stock method under SFAS No. 128, “Earnings per Share.”  Basic and diluted net earnings per common share are as follows: The fair value of grants issued in 2001 and 2000 was estimated using  the binomial options-pricing model. For options granted in 2002, the  Company has estimated the fair value of each grant using the more  widely recognized Black-Scholes option-pricing model. Assumptions are  evaluated annually and revised, as necessary, to reflect market condi- tions and additional experience. The following assumptions were used: $^{(1) }$Despite being included currently in diluted net earnings per common share, the actual  conversion to common stock occurs pursuant to the repayment of the ESOP debt over  a period exceeding 20 years. $^{(2)}$ Approximately 36 million in 2002, 38 million in 2001 and 17 million in 2000 of the   Company’s outstanding stock options were not included in the diluted net earnings  per common share calculation because to do so would have been antidilutive (i.e.,  the exercise price exceeded market value.)  Millions of dollars except per share amounts Note 8 Earnings Per Share and Stock Options Net Earnings Per Common Share Stock-Based Compensation 2002 Net earnings available to  common shareholders Preferred dividends, net  of tax benefit Preferred dividend impact on  funding of ESOP (see Note 9) Diluted net earnings $4,228 124 (12)  4,340  $2,801 121 (15)  2,907  $3,427 115 (18)  3,524 Years Ended June 30 2000 2001 Shares in millions Basic weighted average common   shares outstanding Conversion of preferred shares  (1) Exercise of stock options  (2) Diluted weighted average common   shares outstanding 1,297.4 88.8 18.7 1,404.9  1,300.3 91.9 13.4 1,405.6 1,313.2 94.3 19.7 1,427.2 Years Ended June 30 2002 2000 2001 Years Ended June 30 Net Earnings As reported Pro forma Net Earnings Per Common Share Basic As reported Pro forma Diluted As reported Pro forma  $4,352  3,910  $3.26  2.92  3.09  2.77  $2,922  2,612  $2.15 1.92 2.07 1.85  $3,542  3,363  $2.61 2.47 2.47 2.34 2002 2000 2001 2002  5.4%  2.2%  20%  12  5.8%  2.0%  26% 9  6.0%  1.5%  28% 9 Interest rate Dividend yield Expected volatility Expected life in years Years Ended June 30 Options Granted 2001 2000