What Is EPS (Earnings Per Share)?
The profit of a firm is divided by the number of outstanding shares of its common stock to compute earnings per share (EPS). The resulting figure is used to determine a company’s profitability. It is typical for a corporation to announce earnings per share (EPS) that has been adjusted for unusual items and probable share dilution.
Formula for calculating earnings per share
Simply use the following EPS formula to compute earnings per share:
EPS = (Net income – Dividends on preferred stock) / Average outstanding common shares
Net income – The company’s total earnings (profit), computed by subtracting costs from total sales.
Preferred stock dividends – Preferred stock is a type of asset that offers stockholders first priority over common stock. Preferred shares have a larger dividend and are more secure (in the event of a company’s insolvency, these owners receive the money first), but they have no voting rights. Dividends on preferred stock are simple payments made to owners on a monthly or quarterly basis.
The number of shares currently held by shareholders is known as the average outstanding common shares. This number fluctuates over time; for example, it rises when the firm issues new shares and falls when it buys back its old ones.
What Is the Purpose of EPS?
When measuring a company’s profitability on an absolute level, earnings per share is one of the most essential measures to consider. It’s also a big part of figuring out the price-to-earnings (P/E) ratio, where the E stands for earnings per share. An investor can determine the value of a stock by dividing its share price by its earnings per share to see how much the market is prepared to pay for each dollar of earnings.
One of the many indicators you can use to pick stocks is earnings per share (EPS). If you’re interested in stock trading or investing, the next step is to find a broker that can accommodate your investment preferences.
Because ordinary shareholders do not have direct access to earnings, comparing EPS in absolute terms may be meaningless to investors. Investors will instead compare EPS to the stock’s share price to gauge the worth of earnings and how optimistic they are about future growth.
Diluted EPS vs. Basic EPS
The basic EPS of each of these picked companies is calculated using the formula in the table above. The dilutive effect of shares that the corporation may issue is not taken into account in basic EPS. If stock options, warrants, or restricted stock units (RSU) are included in a company’s capital structure, these investments, if exercised, could raise the total number of shares outstanding in the market.
Companies also publish diluted EPS, which assumes that all shares that could be outstanding have been issued, to better highlight the effects of new securities on per-share profitability.
For the fiscal year that concluded in 2017, the total number of shares that could be formed and issued from NVIDIA’s convertible instruments was 23 million. When this number is added to the total number of shares outstanding, the diluted weighted average number of shares outstanding is 541 million + 23 million = 564 million. As a result, the company’s diluted EPS is $1.67 billion /.564 million = $2.96.
When calculating a fully diluted EPS, it’s often necessary to make a numerator modification. For example, a lender may offer a loan with the option to convert the debt into stock if certain requirements are met.
The convertible debt-created shares should be included in the denominator of the diluted EPS calculation, but if that were to happen, the corporation would not have paid interest on the debt. In this instance, the company or analyst will re-incorporate the interest paid on convertible debt into the numerator of the EPS calculation to avoid distorting the outcome.
Earnings Per Share (EPS) from Continuing Operations
A corporation began the year with 500 stores and a $5.00 EPS. Assume, however, that during that time, the corporation closed 100 outlets and concluded the year with 400. An analyst will be interested in the EPS for just the 400 stores that the firm intends to keep in the following quarter.
In this case, the EPS could rise because the 100 closed stores may have been running at a loss. An analyst can better compare historical performance to present performance by measuring EPS from ongoing operations.
Capital and Earnings Per Share
The capital required to generate the earnings (net income) in the computation is an important part of EPS that is often overlooked. Two companies may produce the same EPS, but one could do so with less net assets; that company would be more efficient in utilising its capital to generate revenue and, all else being equal, would be a “better” company in terms of efficiency.
The return on equity is a statistic that can be used to find more efficient businesses (ROE).
Dividends and EPS
Despite the fact that EPS is extensively used to track a company’s success, shareholders do not have direct access to its profits. A portion of the earnings may be dispersed as a dividend, but the corporation can keep all or part of the EPS. To gain access to more of those profits, shareholders would have to adjust the portion of EPS given through dividends through their representatives on the board of directors.
Price-to-Earnings Ratio (P/E) and Earnings Per Share (EPS)
Making a P/E ratio comparison inside an industry group might be beneficial, but in surprising ways. Although it may appear that a stock that costs more in relation to its EPS than its peers is “overvalued,” the opposite is usually the case.
Investors are willing to pay more for a stock if it is predicted to expand or beat its peers, regardless of its past EPS. During a bull market, it is common for the stocks in a stock index with the highest P/E ratios to beat the index’s average.
What Qualifies as a Good EPS?
What constitutes a good EPS will be determined by criteria such as the company’s current success, the performance of its competitors, and the analysts’ predictions for the stock. A company’s EPS may increase, but the stock price may fall if analysts were expecting a greater amount.
If analysts were expecting an even worse performance, a decreasing EPS figure can nevertheless lead to a price increase. Always evaluate EPS in connection to the company’s stock price, for as by looking at the P/E ratio or earnings yield.
What’s the Difference Between Diluted EPS and Basic EPS?
Analysts will occasionally differentiate between basic and diluted earnings per share. The basic EPS is calculated by dividing the company’s net income by the number of outstanding shares. It is the most widely published metric in the financial press, as well as the most basic definition of EPS.
Because it contains a more expansive definition of the company’s shares outstanding, diluted EPS will always be equal to or lower than basic EPS. It specifically includes shares that are not now outstanding but may become so if stock options and other convertible securities are exercised.
What Is the Difference Between Earnings Per Share (EPS) and Adjusted Earnings Per Share (EPS)?
Adjusted EPS is a sort of EPS calculation in which the numerator is tweaked by the analyst. This usually entails adjusting non-recurring net income components or deleting them entirely. For example, if a one-time sale of a building boosted the company’s net income, the analyst might subtract the revenues from that transaction, reducing net income. Adjusted EPS would be lower than basic EPS in that case.