What is Earnings Per Share (EPS) and How is it Calculated

For most investors searching for the next multi-bagger, measuring the intrinsic or true stock value is the first step of the fundamental analysis process. Once you know the intrinsic value, you can then compare it with the current stock price to determine whether or not you should invest. The Earnings Per Share or EPS is one of the most critical aspects of this analysis process.What is Earnings Per Share? How is it calculated? Are there different types of EPS? Here’s everything you should know-

EPS is derived by dividing a company’s quarterly or annual profit by the total number of outstanding shares of stock. It is used as the primary yardstick for analyzing a company’s profitability. Companies with a higher EPS are generally perceived to be more profitable.Along with other factors, EPS helps investors ascertain whether the company they’re analyzing is worth their investment at the current price.

You can calculate EPS by subtracting preferred dividends from a company's net income and dividing the amount by the total outstanding share of stock. Here’s the formula for calculating EPS- EPS = [ (Net Income - Preferred Dividends) / Common shares outstanding ] For instance, let us assume that a company’s net income for the quarter is Rs. 50 lakhs. The company pays Rs. 10 lakhs as preferred dividends and has 5 lakh outstanding shares.Thus, if we replace these values in the EPS formula, then here’s what it’ll look like-EPS = [ (5,000,000-1,000,000) / 5,000,000 ]EPS = Rs. 8 per shareAs the common shares outstanding can considerably vary in a given period, the weighted average of common shares is generally used for EPS calculation.

Investors should also know the different types of EPS. There are five types of EPS. Take a look-

The method uses the GAAP (Generally Accepted Accounting Principle) for calculating EPS. Companies commonly use this method to report their earnings to stock exchanges.

It is common for companies to hold on to their profits rather than share them with the investors through dividends. The profits are used for purposes like repaying debt, expansion, etc. Retained EPS is used in such cases.

The pro forma or ongoing EPS uses the ordinary net income for calculation but excludes income passed as unusual one-time income. As a result, it helps in discovering the expected income from a company’s primary business ventures.

It is used for calculating a company’s average equity in every share. If the company is liquidated, then book value EPS helps estimate the total value of the company stake. As this EPS relies on the company’s balance sheet, it offers a static representation of its performance.

The financial standing of a company is analyzed with cash EPS. It is commonly used to know the exact cash generated by a company. As manipulating cash EPS is challenging for companies, investors trust this EPS for analyzing stocks.

Now that you know what is Earnings Per Share , let's quickly understand its importance –

• Investors compare the EPS of companies, often from the same sector, to choose the best stock for their portfolio.
• EPS of a particular company can also be compared across multiple durations to predict its future potential. For instance, if a company’s EPS has been steadily rising over the years, then it can be an excellent bet.
• If the EPS of a company is high, then it means that it is generating more profits. It could also lead to higher or more regular dividend payouts in the future.

Earnings Per Share is one of the most common and practical ways to analyze a company's financial performance. It can be used along with other metrics to measure the overall financial strength of a company and ascertain whether it can be a worthy addition to your portfolio.If you’ve just started with fundamental analysis, then EPS deserves your utmost attention as it will add more transparency and accuracy to the analysis process. But if you’re new to the stock market and want to build a long-term stock portfolio, then it’d also help if you consider the assistance of a professional advisor.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.