Basic Earnings Per Share (EPS)

What is the definition of a Basic Earnings Per Share (EPS) in finance? 

There are many financial tools that help investors keep track of their investments. One of such is the basic earnings per share, otherwise known as EPS which keeps investors informed on the allocation of a company’s net income per share of its common stock. With the help of the EPS investors are to see how much profit a company turns in, and its overall financial/business performance per time.

What is Basic Earnings Per Share?

Basic earnings per share is a financial ratio used to measure stockholders’ net income. It is also known as EPS, earnings per share and net income per share. The EPS can be calculated by subtracting the preferred dividends from net income and dividing it by the average number of common stock shares outstanding during a period. It is illustrated thus;

Earnings Per Share =         Net Income – Preferred Dividends

                  Weighted Average Common Share Outstanding

NB: The weighted average method is a tool used to calculate the total number of shares in common stock outstanding within a particular year. This same method can be applied in counting and valuating inventory.

Basic Earnings Per Share Explained

The EPS is used to measure the performance of companies that have simplified capital structures. Hence, the EPS is primarily for companies that possess common stock in their capital structure and is reported in the companies’ income statement. Such that if all a business has in its capital structure is common stock, it will be expected of the company to only present its basic earnings per share for the income generated from continuing operations and net income. If a company has situations where more shares are issued like stock options outstanding, then, they should be reported as diluted earnings per share. Such is the case when a company’s capital structure is complex.

Diluted EPS covers all outstanding dilutive securities such as stock options and convertible preferred stock. It accounts for these securities and shows how much action would be required to affect the EPS. In order to have a more elaborate income statement, companies with complex capital structure are expected to report both the basic EPS and diluted EPS.

Basic earnings per share has a major influence on stocks as a slight increase in basic EPS can bring about an increment of the stock price, alongside a company’s appreciating earnings on each share. This does not, however, imply that once there is a rise in basic EPS a company will automatically generate gross income per time as there are other factors that determine this. Such that, a company can decide to repurchase its shares, lower its share count, and spread net income less preferred dividends over some common shares.