What is Earnings per share ?
Earnings per share is the share of net income, after deducting preferred dividend, that is allocable to common stock shareholders. It is the return per share available to each shareholder for their investment in the stock of the company. Earnings per share is calculated annually or quarterly and presented in the financial statements of the company.
It is a basic financial ratio which is used by investors to understand the financial health of the company. It is a financial measure used by investors to compare the financial well being of two or more companies over one or more financial years. A high Earnings per share generally implies that the company is highly profitable.
What is EPS formula ?
The formula for calculating Earnings per share is as follows :
= ( Net income – Preferred dividend ) / Weighted average Number of shares of common stock outstanding
What is EPS and how is it calculated ?
Example : Cashrich Co, has net income of $ 700,000 and preferred stock dividend of $ 200,000. The Number of shares of common stock outstanding is 100,000. Calculate the Earnings per share.
Solution :The formula for calculating the Earnings per share is
= [ Net Income – Preferred stock dividend ] / No. of shares of common stock outstanding
As per the data given in the question we have
Net Income = $ 700,000 ; Preferred stock dividend = $ 200,000 ;
Number of shares of common stock outstanding = 100,000
Applying the above information in the formula we have Earnings per share as
= [ $ 700,000 – $ 200,000 ] / 100,000
= $ 500,000 / 100,000 = $ 5
Thus the Earnings per share of Cashrich co. is = $ 5
What is Normalised EPS ?
Normalized EPS is arrived at by deducting from the income statement, a one off or non recurring item of income or an item expense, which arose due to a situation which may not be a regular feature in the normal course of business of the company.
For instance, profit on sale of equipment would result in increase in the net income and spike the earnings per share of the company. It is highly unlikely that the company will sell equipment each year and therefore the Earnings per share will show a steep decline in the next year in which there is no such sale.
Thus net income in the year of such special situations should be adjusted for the resultant income or loss from the said situation.
Thus the Normalized EPS = ( Net Income – Profit from one off / non recurring income + loss from one off / non recurring income ) Weighted average Number of shares of common stock outstanding
What Is Negative EPS ?
A company is said to have a negative EPS when the company is making losses. It is the amount of loss per share incurred by the shareholders of the company.
Negative EPS is calculated using the formula = Net loss / Weighted average Number of shares of common stock outstanding
Is a negative EPS bad ?
Negative EPS is a common phenomenon in start ups and capital intensive companies. These companies take a few years to grow a to reasonable level of sales and profit to reach a positive figure of EPS. In such cases negative EPS is not bad and is a reality that is acceptable for a brief period.
In case of a well established company that has been posting a negative EPS for a long period of time without any plans to revive the same, negative EPS is a cause of worry.