Earnings per share is a fundamental measure of the health and profitability of any corporation. This figure answers an important question: What is the reported profit for each stock share of the business?
Here's how to calculate the earnings per share, and how you can use this figure to enhance your financial analysis.
What Is Earnings Per Share?
The earnings per share is one of the most basic questions an investor should ask about a business they invest in. This financial ratio calculates how much profit the company is generating per share. In other words, it tells you how much money shareholders would receive if the company were to be liquidated. This is a theoretical scenario—in practice, companies reinvest most of their profits back into the business.
- Acronym: EPS
You can find earnings per share on a company's income statement.
How Do You Calculate Earnings Per Share?
The formula for calculating earnings per share is quite simple. It's the total net profit generated by the company divided by the total number of common shares outstanding.
How Earnings Per Share Works
Net profit, as it's used here (and in almost all financial calculations) is defined as the sum of all revenues less all costs. These costs include operational and management expenses, depreciation, interest, and taxes.
EPS data is commonly based on the past 12 months of data. It's also customary to subtract the after-tax total of dividends paid on preferred shares.
The number of common shares outstanding is based on a weighted average of the common shares outstanding. With publicly traded corporations, the number of total shares may change over the course of the year, so an average provides a more consistent calculation.
Luckily, you'll rarely have to crunch these numbers yourself. Public companies are legally required to disclose this information, so it's widely available on financial news sites and brokerage apps. This allows you to compare the financials of various companies without getting bogged down by math.
Limitations of Earnings Per Share
The problem with EPS is that without comparative evaluations, EPS doesn't tell you much. In fact, EPS is fairly meaningless until you relate it to share price.
When you divide the share price by earnings per share, this gives you the price-to-earnings ratio (P/E). This is one of the most widely used and revered of all financial tools. It's that essential "bang for the buck" figure that tells you what you're getting for your investment dollar.
For example, imagine that a company tells you it earns $1 per share. It isn't a negative number, so that's a good sign—but beyond that, you can't really assess the EPS. You look up that company's ticker symbol on your brokerage app, and you find out that a share in the company costs $1. Now you know that the EPS is actually really good—the company earns $1 in profit for every $1 invested in its stock.
However, if stock in that same company actually costs $20 per share, then the EPS becomes less enticing. Its P/E ratio is 20, which means that investing in the company costs 20 times more than what you can expect the company to earn in profit for that investment.
One way in which EPS can be a useful figure in and of itself is if you compare it to the EPS in previous years. This provides insight into how quickly the company is growing. If a company has an EPS of $1 one year, and then and EPS of $3 the next year, that's a signal that the company is growing. Multiple years of healthy EPS growth can be an encouraging sign for investors. Conversely, declining EPS can be a troubling sign.
- Earnings per share (EPS) is a financial ratio that measures how much profit a company earns in comparison to the number of common shares outstanding.
- In other words, EPS tells you how much money every shareholder would get if the company were to go through liquidation—though it's incredibly unlikely that a profitable public company would liquidate.
- EPS in and of itself isn't that useful, but it forms the building blocks of many common financial measurements, such as the price-to-earnings ratio.