Explanation of EPS in Stocks
In stock market terms, earnings per share is abbreviated as EPS. It's a measure of how much profit or loss a company saw in a particular period divided by the number of outstanding shares in its stock. Higher earnings per share generally leads to a rise in stock price.
In its simplest form, earnings per share can simply be calculated by dividing a company's reported earnings number by the number of shares in existence. In practice, various versions of a more complicated EPS formula are sometimes used to handle special cases.
Understanding the EPS Definition
Companies generally report their earnings, meaning profit or loss, on a quarterly and annual basis in filings with the Securities and Exchange Commission. They'll also often report a number called earnings per share, taking the earnings number divided by the number of shares in their stock available in the market. Since earnings per share looks at what profit is available to holders of a company's common stock, dividends paid on preferred stock are normally subtracted from earnings before dividing the two numbers.
This is used by investors as part of a way to calculate whether or not the stock is a good deal at its current price. Companies with higher earnings per share generally command a higher stock price, because that means more profit that they can potentially pay out as dividends to shareholders or simply reinvest in the company. EPS growth often is seen as a positive sign and leads to growth in the company's share price.
EPS numbers are usually found in corporate press releases and filings with the SEC, and they can also be found by checking financial news and information sites as well as through brokerage sites.
Diluted Earnings Per Share
In some cases, stock market watchers will look at a number called diluted earnings per share, which effectively includes all other securities that can be converted to shares. These can include stock options and restricted stock units issued to investors or employees.
The purpose of using diluted EPS is to take into account the fact that the number of shares is likely to rise as these securities are converted into ordinary shares, diluting the profit for current shareholders.
Excluding One-Off Events
Companies also sometimes report additional earnings and earnings per share numbers excluding profit or loss from a one-off event, sometimes listed as an extraordinary item. For instance, if a company sold off a piece of real estate it's no longer using or paid a one-time hefty settlement in a lawsuit, that might be excluded from earnings since it won't affect the company's bottom line going forward.
Investors should make sure they understand what's being used in a reported EPS number and calculate their own numbers based on data reported by a company if they don't agree that the highlighted number is the most valuable one.
The Price-Earnings Ratio
EPS is also used to calculate a common stock market data point called the price-earnings ratio. This is the share price divided by earnings per share.
Companies with a high price-earnings ratio may be overvalued, or it may be that investors expect earnings to grow in the future as the company matures. This can be common with startups in the tech sector. Conversely, a company with a low price-earnings ratio may be cheap, or it may be that investors are factoring in reasons why earnings may decrease in the future, such as for a retailer that is closing stores or a company exiting a line of business.
It can be helpful to compare price-earnings ratios between companies in the same industry to look for outliers when making investment decisions.
Steven Melendez is an independent journalist with a background in technology and business. He has written for a variety of business publications including Fast Company, the Wall Street Journal, Innovation Leader and Ad Age. He was awarded the Knight Foundation scholarship to Northwestern University's Medill School of Journalism.