Many on and off Wall Street speak about Earnings Per Share (EPS), but few actually understand the metric. Every quarter, public companies release and earnings report, highlighting sales numbers and EPS. We will describe how these numbers originate, what they mean, and how to react to them .
Breaking Down EPS
Earnings per share is the amount of money earned for each share of stock outstanding. This is a profitability measure for companies. The calculation is as follows : EPS = (net income – dividends on preferred stock)/outstanding shares.
Furthermore, EPS requires both the income statement and the balance sheet for calculations. Net income comes from the income statement. Conversely, the balance sheet reveals total outstanding shares and dividends. Intelligent analysts use a weighted average of the outstanding shares as the number changes over time.
Additionally, many consider EPS to be the most important variable in valuing a company’s share price. Why is this?
First of all, EPS is integral in evaluating price-to-earnings (P/E) ratios. P/E = stock price / EPS. P/E ratios are used by most every investor and analyst world wide. It informs investors how much they pay for a single share of stock relative to its earnings.
Furthermore, EPS tells investors how the company did on a per share basis. This is paramount because it keeps company performance consistent. If a company earns much more income than the prior quarter, but diluted the outstanding shares in the process, they did not create value. The metric tells participants how efficiently the company earned its income.
Earnings Per Share Bottom Line
In conclusion, Earnings Per Share needs to be understood and utilized by all market players. Each quarter companies report their EPS number. Also, Wall Street analysts estimate what they believe the company will report. The difference or similarity of these two numbers typically moves stock prices.
For this reason investors monitor EPS numbers extremely closely. EPS growth trends, in either direction, give investors a good idea of where the stock will be in the future.