Basic earnings per share (basic EPS) — short explainer
Definition
– Basic earnings per share (basic EPS) measures how much of a company’s net income is attributable to each share of common stock. It is a per-share profitability metric companies report on the income statement.
– Jargon: “Net income” = profit after taxes and expenses; “preferred dividends” = payments due to preferred stockholders that reduce the amount available to common shareholders; “weighted average shares outstanding” = the time‑weighted average number of common shares during the reporting period.
Formula
– Basic EPS = (Net income − Preferred dividends) ÷ Weighted average common shares outstanding
Step-by-step checklist (how to calculate basic EPS)
1. Start with net income for the reporting period (use continuing operations or total net income depending on the disclosure you want).
2. Subtract preferred dividends that are attributable to the reporting period (these are not available to common shareholders).
3. Compute the weighted average number of common shares outstanding during the period:
– For each time segment, multiply shares outstanding by the fraction of the period they were outstanding.
– Sum those time-weighted amounts.
4. Divide the earnings available to common shareholders (step 2) by the weighted average shares (step 3).
5. Check whether the company has convertible securities; if so, also review diluted EPS (which assumes those securities were converted and increases the share count).
Worked numeric example (step-by-step)
– Given: Company reports net income of $100 million. It pays $23 million in preferred dividends. Common shares: 100 million at the start of the year; 20 million additional common shares issued at mid-year.
1. Earnings available to common = 100 − 23 = $77 million.
2. Weighted average shares:
– First half: 100 million shares × 0.5 = 50.0 million
– Second half: (100 + 20 = 120 million) × 0.5 = 60.0 million
– Weighted average = 50.0 + 60.0 = 110.0 million shares
3. Basic EPS = 77,000,000 ÷ 110,000,000 = $0.70 per share
Why basic EPS matters — and its limits
– Use: Basic EPS gives a simple per‑share view of profitability and is often used in valuation multiples (e.g., price-to-earnings).
– Limitation 1 — ignores dilution: Basic EPS does not assume exercise/conversion of options, warrants, or convertibles; when those could be converted into common shares, diluted EPS provides a lower, more conservative per‑share earnings figure.
– Limitation 2 — share-count changes: Share buybacks reduce the denominator and can raise basic EPS even if a company’s total earnings fall. Conversely, large share issuances lower EPS.
– Watch for divergence: A widening gap between basic EPS and diluted EPS indicates a higher potential for future dilution of current common shareholders.
Practical checks when reading EPS on reports
– Verify whether the company reported basic EPS, diluted EPS, or both.
– Confirm the treatment of preferred dividends (are they cumulative, declared, or convertible?).
– Recompute the weighted average share count if the company has multiple issuances, buybacks, or stock splits during the period.
– Compare EPS trends with absolute net income and share-count movements to understand whether EPS changes come from genuine profit growth or share-count manipulation.
Sources for further reading
– Investopedia — Basic Earnings Per Share (EPS)
https://www.investopedia.com/terms/b/basic-earnings-per-share.asp
– U.S. Securities and Exchange Commission — Earnings Per Share (EPS) and Price/Earnings (P/E) Ratio (investor guidance)
https://www.sec.gov/fast-answers/answersepshtm.html
– International Accounting Standards Board (IASB) — IAS 33 Earnings per Share (standard overview)
https://www.ifrs.org/issued-standards/list-of-standards/ias-33-earnings-per-share/
– Corporate Finance Institute — Earnings Per Share (EPS) guide
https://corporatefinanceinstitute.com/resources/knowledge/finance/earnings-per-share-eps/
Educational disclaimer
This explainer is for educational purposes only. It does not provide personalized investment advice or recommendations
Quick practical checklist — calculating basic EPS
– Gather the inputs:
1. Net income for the period (from the income statement).
2. Preferred dividends declared (if any) for the same period.
3. Weighted average number of common shares outstanding during the period.
– Apply the formula:
Basic EPS = (Net income − Preferred dividends) / Weighted average common shares outstanding
– Verify period alignment: income and dividends must cover the same reporting period; share-count must be weighted for timing (issuances, buybacks, splits).
– Report units and rounding: state EPS in the same currency as net income and round consistently (e.g., two decimal places).
Worked numeric example
– Inputs:
– Net income = $10,000
– Preferred dividends = $1,000
– Weighted average common shares outstanding = 2,000 shares
– Calculation:
– Numerator = $10,000 − $1,000 = $9,000
– Basic EPS = $9,000 / 2,000 = $4.50 per share
– Interpretation: each common share earned $4.50 during the period before considering any potentially dilutive securities.
Adjusting weighted shares — common cases (how to do it)
– Issuance or buyback mid-period:
1. Multiply shares outstanding by fraction of period held (e.g., shares outstanding for 3 months of a 12-month year → multiply by 3/12).
2. Sum weighted amounts to get the period average.
– Stock splits or dividends-in-kind (retroactive adjustment):
– For a 2-for-1 split occurring during the period, multiply prior-period shares and weighted-share amounts by 2 so comparable EPS figures reflect the split.
– Example: Company had 1,800 shares for first half-year and issued 400 shares on July 1. Weighted shares = 1,800*(6/12) + (1,800+400)*(6/12) = 900 + 1,100 = 2,000 shares.
Common pitfalls and how to avoid them
– Forgetting preferred dividends: If a company has preferred stock with dividends, subtract those from net income before computing basic EPS.
– Using year-end shares instead of weighted average: Year-end counts can materially misstate EPS when shares change during the period.
– Not adjusting prior periods for splits: Comparability across periods requires retroactive split adjustments for prior shares and EPS.
– Confusing basic and diluted EPS: Basic EPS excludes potential common shares (converts, options); diluted EPS includes them if they would reduce EPS.
– Rounding errors: When net income or share counts are large, express EPS per share to an appropriate decimal (or use per-share amounts in cents).
Checklist for financial statement review
– Confirm whether preferred dividends exist and their amount.
– Recompute weighted average shares if changes occurred during the period.
– Check notes to financial statements for stock splits, share-based compensation, convertibles, and any retroactive adjustments.
– Compare basic EPS trend with net income growth and share-count movement to assess drivers.
Short example contrast: EPS growth driven by buybacks vs. earnings
– Company A: Net income +10%, shares −5% (buybacks). EPS roughly increases >10% due to both effects.
– Company B: Net income +10%, shares +10% (new issuance). EPS may be flat.
– Conclusion: look beyond headline EPS to underlying income and share-count changes.
Educational disclaimer
This material explains concepts for learning and does not constitute individualized investment advice, recommendations, or a solicitation to buy or sell securities. Consult a licensed professional for personal investment decisions.
Further reading (selected authoritative sources)
– Investopedia — Basic Earnings Per Share (EPS): https://www.investopedia.com/terms/b/basic-earnings-per-share.asp
– U.S. Securities and Exchange Commission — Earnings Per Share (EPS) and Price/Earnings (P/E) Ratio: https://www.sec.gov/fast-answers/answersepshtm.html
– International Financial Reporting Standards (IAS 33) — Earnings per Share (standard overview): https://www.ifrs.org/issued-standards/list-of-standards/ias-33-earnings-per-share/
– Corporate Finance Institute — Earnings Per Share (EPS) guide: https://corporatefinanceinstitute.com/resources/knowledge/finance/earnings-per-share-eps/