EPS or earnings per share is a measure of profitability. It tells investors how much profit a company makes for each share of its stock. The higher the EPS, the more profitable the company is.
This article explains the three types of EPS calculation and helps you understand that EPS growth and EPS acceleration are the cornerstones of a successful growth investing strategy.
What is Earnings per Share (EPS)?
EPS refers to the portion of a company’s profit allocated to each outstanding share of common stock. EPS serves as an indicator of a company’s profitability and is often used to measure how much money shareholders would receive if the company was liquidated.
Investors often use EPS as one metric when analyzing a company’s stock. A higher EPS usually indicates that a company is more profitable, and therefore, its stock is likely to be more valuable. However, it is important to note that EPS is just one factor to consider when making investment decisions. Other factors, such as a company’s overall financial health, business model, and competitive landscape, should also be considered.
What is Basic EPS?
Basic EPS is a measure of a company’s profitability. It is calculated by dividing the company’s net income by the number of its outstanding shares of common stock. Basic EPS excludes any dilutive effects of items such as stock options, dividends, or warrants.
Basic EPS Formula Calculation
Basic EPS = (Profit – Preferred Dividends) / Weighted Average Common Shares
EPS Calculation
To calculate EPS, you need to know two things: first, the total number of shares outstanding, and second, the company’s net income.
EPS Formula Calculation:
EPS = Net Income / Total Shares Outstanding
How to Calculate EPS?
EPS is calculated by dividing a company’s net income by the number of shares outstanding. For example, if Company XYZ has a net income of $1 million and 1 million shares outstanding, its EPS would be $1.
If Company ABC has a net income of $5 million and 10 million shares outstanding, its EPS would be $0.50.
What is diluted eps?
Diluted earnings per share (EPS) is a measure of a company’s profit that considers the dilutive effect of convertible securities.
Dilutive securities can potentially be converted into shares of common stock and increase the number of shares outstanding. This conversion would have the effect of diluting the earnings per share figure. As such, when calculating diluted EPS, companies take into account the effects of any dilutive securities on earnings per share.
How to calculate diluted EPS
Diluted EPS is calculated by adjusted net income divided by the weighted average number of shares outstanding during the period. The calculation of diluted EPS includes all potentially dilutive securities, including stock options, convertible debt, and warrants.
Diluted EPS Formula
Diluted EPS = (Net Income – Preferred Dividends) / (Weighted Average Number of Shares Outstanding + OptionsOutstanding)
For example, assume a company has 100 shares of common stock outstanding and reports a net income of $10,000. The company’s EPS would be $10,000 / 100 = $100. However, if the company also has 10 outstanding options that can be exercised to purchase additional common stock, the diluted EPS figure would consider the dilutive effect of those options.
The diluted EPS figure is calculated as follows:
Diluted EPS = (Net Income – Preferred Dividends) / (Weighted Average Number of Shares Outstanding + OptionsOutstanding)
In this example, assume the options are exercisable at $10 per share. The calculation would be as follows:
Diluted EPS = ($10,000 – $0) / (100 + 10)
Diluted EPS = $10,000 / 110
Diluted EPS = $91.43
As can be seen from this example, the inclusion of dilutive securities can have a significant impact on earnings per share. Companies typically report both basic and diluted EPS figures to give investors a fuller picture of their financial performance.
What is the EPS growth rate?
The EPS growth rate is the percentage change in earnings per share (EPS) from one period to another. EPS growth measures the increase of a company’s profitability and is often used as a market indicator.
When analyzing a company’s EPS growth rate, it is important to consider its overall financial health and business strategy. A company growing EPS at a rapid pace may not be sustainable in the long term if it is not generating enough cash flow to fund its operations. Likewise, a company growing EPS at a slow pace may be doing so due to inefficient operations or heavy debt loads.
Example Chart: EPS & PER Growth Rate Apple Inc.
How to calculate eps growth rate
There are a few different ways to calculate the EPS growth rate, but the most common method is to take the current EPS figure and divide it by the EPS figure from the previous year. This will give you the percentage change in EPS from one year to the next.
For example, if a company’s EPS was $1.00 last year and $1.20 this year, the EPS growth rate would be 20%.
You can also use a more sophisticated method known as the compound annual growth rate (CAGR). This considers the fact that earnings can grow at different rates over time. To calculate CAGR, you need to find the average EPS growth rate for a period of time (usually five years). You can do this by adding up the EPS figures for each year and dividing them by 5. For example, if a company’s EPS was $1.00 in 2014, $1.20 in 2015, $1.40 in 2016, $1.60 in 2017, and $1.80 in 2018, the average EPS growth rate would be 20%.
Once you have calculated the EPS growth rate, you can then use this figure to estimate future EPS figures. For example, if you expect a company’s EPS to grow at 20% per year, you can estimate that the EPS for the next year will be $1.44 (1.20 x 1.20).
Keep in mind that EPS growth rates can vary from year to year, and even quarter to quarter, so it is important to stay up to date on a company’s financial reports.
Why is EPS growth important?
EPS growth is one of the most important indicators of a company’s health and future prospects. A company that is growing its EPS is generally doing well and is likely to continue to do well in the future. That said, there are a few things to keep in mind when considering EPS growth.
First, EPS growth can be affected by one-time items. A company may have a great quarter, but if that quarter includes a one-time gain or loss, it can distort the EPS growth rate. As such, it’s important to look at a company’s EPS growth over time rather than just in one period.
Second, EPS growth is just one metric to consider. It’s important to look at a company’s overall financial health, as well as its EPS growth rate when making investment decisions.
Third, EPS growth can be affected by share buybacks. When a company buys back its own shares, it reduces the number of shares outstanding, which in turn can boost EPS growth. However, share buybacks can also be a sign of management’s confidence in the company’s future prospects.
Overall, EPS growth is an important metric to consider when evaluating a company.
EPS & Growth Rate Practical Examples
Take a look at the EPS of the two imaginary companies below. In which would you invest? Assume the number of outstanding shares is the same throughout the period.
Company A – Big Balls & Co – Leather Balls Manufacturer
Q1 EPS = 1.50$
Q2 EPS = 0.10$
Q3 EPS = 1.50$
Q4 EPS = 2.00$
Company B – Small Spanners Inc – Tool Manufacturer.
Q1 EPS = 0.20$
Q2 EPS = 0.30$
Q3 EPS = 0.60$
Q4 EPS = 1.50$
You may be tempted to say well, Company A has a bigger Q4 EPS of $2 and has made $5.10 for the year. Company B only made $3 for the year and has a lower Q4 EPS.
However, the key to the fantastic stock price upward movement is ACCELERATING EPS.
Now let’s look at the table again to review what the % increases in EPS were for both companies.
Company A – Big Balls & Co – Football Manufacturer
Q1 EPS = 1.50$
Q2 EPS = 0.10$ – -93%
Q3 EPS = 1.50$ – +1400%
Q4 EPS = 0.75$ – -50%
Company B – Small Spanners Inc – Tool Manufacturer.
Q1 EPS = 0.20$
Q2 EPS = 0.30$ – +50%
Q3 EPS = 0.60$ – +100%
Q4 EPS = 1.70$ – +183%
My recommendation would be company B. for the following reasons.
- Company B is consistent. Unlike Company A, Company B shows strong solid, consistent growth without interruption.
- Company A had its EPS drop from $1.50 to 10 cents unless this is seasonally expected; this shows the company has some financial difficulty.
- Although Company B shows smaller EPS in Q4, its rate of Earnings Acceleration would mean that by Q1 or Q2 next year, it would exceed company A.
Stock Chart Example of Accelerating EPS
Microsoft (MSFT) before its meteoric rise to world dominance showed accelerated earnings before its stock exploded in 1987.
TeleChart2000 chart courtesy of Worden Brothers, Inc.
If you had invested $1000 in 1987, you would have made one of the finest investment decisions of your life. Because 13 Years later, it would be worth $6,750,000, Yes 6.75 million dollars.
If you get tips from your financial advisor, postman, workmate, or pals on Facebook, now you can simply look at the EPS, and decide for yourself if the company meets the accelerating EPS challenge.
Accelerating EPS Growth
Companies that grow their earnings per share (EPS) at a faster rate than the market as a whole tend to outperform over the long term. That’s because EPS growth is one of the most important drivers of stock price growth.
Investors often pay close attention to EPS growth rates when they’re trying to find stocks that will perform well. After all, if a company can’t grow its EPS, it’s likely that its stock price will stagnate or even decline.
