# 15. Basic Earnings Per Share (EPS)¶

## 15.1. What is Basic Earnings Per Share?¶

Basic earnings per share (EPS) tells investors how much of a firm’s net income was allotted to each share of common stock. It is reported in a company’s income statement and is especially informative for businesses with only common stock in their capital structures.

## 15.2. Understanding Basic Earnings Per Share¶

One of the first performance measures to check when analyzing a company’s financial health is its ability to turn a profit. Earnings per share (EPS) is the industry standard that investors rely on to see how well a company has done.

Basic earnings per share is a rough measurement of the amount of a company’s profit that can be allocated to one share of its common stock. Businesses with simple capital structures, where only common stock has been issued, need only release this ratio to reveal their profitability. Basic earnings per share does not factor in the dilutive effects of convertible securities.

Basic EPS = (Net income - preferred dividends) ÷ weighted average of common shares outstanding during the period.

Net income can be further broken down into ‘continuing operations’ P&L and ‘total P&L’ and preferred dividends should be removed as this income is not available to common stockholders.

If a company has a complex capital structure where the need to issue additional shares might arise then diluted EPS is considered to be a more precise metric than basic EPS. Diluted EPS takes into account all of the outstanding dilutive securities that could potentially be exercised (such as stock options and convertible preferred stock) and shows how such an action would affect earnings per share.

Companies with a complex capital structure must report both basic EPS and diluted EPS to provide a more accurate picture of their earnings. The main difference between basic EPS and diluted EPS is that the latter factors in the assumption that all convertible securities will be exercised. As such, basic EPS will always be the higher of the two since the denominator will always be bigger for the diluted EPS calculation.

Key Takeaways

Basic earnings per share (EPS) tells investors how much of a firm’s net income was allotted to each share of common stock. Businesses with simple capital structures, where only common stock has been issued, need only release this ratio to reveal their profitability. Companies with a complex capital structure must report both basic EPS and diluted EPS to provide a more accurate picture of their earnings.

## 15.7. 3. Earnings per Share¶

When buying a stock, you participate in the future earnings (or risk of loss) of the company. Earnings per share (EPS) measures net income earned on each share of a company’s common stock. The company’s analysts divide its net income by the weighted average number of common shares outstanding during the year.

## 15.8. 4. Price-Earnings Ratio¶

Called P/E for short, this ratio reflects investors’ assessments of those future earnings. You determine the share price of the company’s stock and divide it by EPS to obtain the P/E ratio.

## 15.11. The Bottom Line¶

Applying formulae to the investment game may take some of the romance out of the process of getting rich slowly. But the above ratios could help you pick the best stocks for your portfolio, build your wealth and even have fun doing it.