What does Earnings Per Share stand for in the Stock Market?

While perusing a financial news website, reading a financial magazine, or watching the financial news, you are likely to hear the phrase EPS when discussing the profitability of a given company. This may trigger your curiosity and make you wonder what EPS stands for, and whether you should care.

What is earnings per share (EPS)

Simply put, EPS is an acronym that stands for Earnings Per Share. 

Earnings per share is an important metric in a company’s earnings figures. It is calculated by dividing the total amount of profit generated in a period, by the number of shares that the company has listed on the stock market.

Earning Per Share is used to determine the value attached to each outstanding share of a company. On exchanges, the amount of profit made by companies and the number of shares they have listed can vary, so Earning Per Share gives a per-capita way of evaluating each business. It is also a way for analysts to compare companies to each other and see which has higher earnings figures.

How to calculate earnings per share - EPS formula

To calculate a company’s earnings per share, you would first need to calculate its net profit by taking net income and subtracting any dividend payments. Then you’d divide that figure by the number of outstanding shares, which is usually a weighted average over the period.

The Earning per Share formula or EPS formula is:

• (Net Income - Dividends on Preferred Stock) / Average Outstanding Shares = EPS

Let’s say you want to buy the shares of XYZ Industries, which currently has a total net income of $900,000. If the company has 75,000 shares in circulation, this would give an EPS of $12 ($900,000/75,000).

Understanding Earning per Share

• Basic Earnings Per Share​: A company's basic EPS, or basic Earnings Per Share, is the company's profits divided by the number of shares outstanding. This is usually calculated on both an annual and quarterly basis. For example, if the company had earnings of $500 million and had 250 million shares of stock issued and outstanding, its basic EPS would be $2.00, because $500 million profit divided by 250 million shares = $2.00.
• Diluted Earnings Per Share: A company's diluted EPS is the same concept, except for the shares outstanding figure, which is adjusted to include shares that the company holds and which could be issued to investors in the future. If a company has a significant amount of potential dilution lurking in the books, the "real" or diluted EPS figure would be lower than the Basic Earnings Per Share figure in profitable years. This is because the company's net income would need to be split by more shares. Many investors are far more interested in a company's diluted Earnings Per Share. 

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Why EPS is important for investors

Earning Per Share is a very important financial metric when it comes to analyzing the financial performance of a company. Many conservative investors rely on basic Earnings Per Share and Diluted Earnings Per Share information to calculate how much they think a stock is worth. Specifically, Earnings Per Share forms the basis of several important financial ratios including:

• The Price-to-Earnings Ratio or P/E Ratio: If a stock is trading at $30, and its basic Earnings Per Share for the year is $3.20, then it can be said that the firm's p/e ratio is about 9.4. The p/e ratio of a stock tells you how many years it would take a company's basic EPS to pay you back your investment cost assuming no taxes were owed on distributions, there was no growth, and all earnings were paid out as cash dividends. The p/e ratio can be inverted to calculate the earnings yield.
• The PEG Ratio: The price-to-earnings-growth ratio, or PEG ratio, is a modified form of the p/e ratio that starts with basic EPS and then calculates the p/e ratio with an adjustment for the projected growth in earnings per share over the coming years. 
• The Dividend-Adjusted PEG Ratio: Going one step further, the dividend-adjusted price-to-earnings-growth ratio, or dividend-adjusted PEG ratio, is a modified form of the PEG ratio that takes the basic EPS figure and then takes into account the valuation not only for the expected growth in future earnings per share but also the dividend yield.

Learning How to Use EPS

Figuring out which multiple of EPS to pay for a company listed on a local stock exchange can be tricky. Some investors set hard and fast rules, which aren't necessarily the best idea since they often don't factor in inflation, taxes, and risk, such as only paying 10x earnings for a stock. Other people pay 8.5x EPS + the expected rate of growth in EPS, a formula highlighted by legendary value investor Benjamin Graham.

Basic EPS and diluted EPS are also important because dividends are ordinarily paid out of profits. This means that if a company has an EPS of $2.00, it can't afford to pay dividends of $3.00 indefinitely. It's just not possible. Dividend investors look at the percentage of EPS paid out as dividends to gauge how "safe" a company's dividend payment is.

Understand what Earning per Share is and the EPS formula is important, but if you need help MT5 AM Broker provides some important analytic tools and access to a wide range of markets. 

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