Earnings per share (EPS) is one of the most important numbers investors look at when deciding whether to buy a stock. It tells you exactly how profitable a company is on a per-share basis.
Want to know how much money a company makes for every share of stock? Understanding how to calculate EPS will help you make smarter investment decisions. Let me show you the complete EPS formula and calculation process.
How to Calculate Earnings Per Share: Step-by-Step
According to the Corporate Finance Institute, the basic EPS formula is: EPS = (Net Income – Preferred Dividends) / Weighted Average Shares Outstanding.
That might look intimidating, but it’s actually pretty simple. You’re just taking the company’s profit, subtracting any dividends they owe to preferred shareholders, and dividing by how many shares exist.
It is like splitting a pizza. If your company made $1 million in profit and has 1 million shares, each share gets $1 of that profit. Simple, right?
Breaking Down Each Essential Part of the EPS Formula
Net Income
This is your company’s total profit after everything’s been paid – salaries, rent, taxes, interest on loans, all of it. According to TD Bank, net income is determined by subtracting all cash and non-cash expenses from revenue for a given reporting period.
You’ll find this number at the bottom of the income statement. That’s why people call it the “bottom line.”
Preferred Dividends
Some companies issue preferred stock, which is different from regular (common) stock. Preferred shareholders get paid first, like VIP customers at a restaurant. You need to subtract these payments because EPS only measures what’s left for common shareholders.
Weighted Average Shares Outstanding
This is just the average number of shares that existed during the time period you’re measuring. Companies buy back shares or issue new ones all the time, so we use an average rather than just counting shares at the end.
Let’s Calculate an Example
Say ABC Company made $10 million in net income last year. They paid $2 million to preferred shareholders. They had 4 million shares at the start of the year and 4 million at the end (no change).
the math is:
- Net Income: $10 million
- Preferred Dividends: $2 million
- Shares Outstanding: 4 million
EPS = ($10 million – $2 million) / 4 million = $2.00
Each share earned $2.00 in profit. That’s your EPS.
Two Types of EPS: Basic vs. Diluted
Most companies report two EPS numbers.
Basic EPS uses only the shares that currently exist. It’s easy to understand.
Diluted EPS is more conservative. Wall Street Prep explains that diluted EPS adjusts for potentially dilutive securities like options, warrants, and convertibles. It answers the question: “What if all those stock options employees have actually turned into real shares?”
Diluted EPS is almost always lower than basic EPS because you’re dividing by more shares.
When to Use Basic vs Diluted EPS
Use Basic EPS when:
- You want a quick snapshot of current profitability
- The company has no stock options, warrants, or convertible securities
- You’re doing initial screening of potential investments
Use Diluted EPS when:
- You want the most conservative profit estimate
- Comparing tech companies (they often have many stock options)
- Making serious investment decisions with your money
Professional investors always focus on diluted EPS because it provides a margin of safety. According to Wall Street Prep, diluted EPS shows the worst-case scenario for earnings dilution.
If you calculate EPS using both methods and see a big difference, that tells you the company has issued many stock options or convertible securities. This isn’t necessarily bad, but it’s information you need to know.
Why Earnings Per Share Matters for Your Investment Success
Comparison Tool
CFI notes that EPS is more valuable when analyzed against other companies in the industry and when compared to the company’s share price. You can’t just look at one company’s EPS in isolation. Is $2 per share good? Depends on whether competitors are making $1 or $5.
Growth Indicator
Smart investors track EPS over time. Rising EPS usually means the company’s growing and getting more profitable. Falling EPS? That’s often a red flag that something’s wrong.
Valuation Foundation
EPS is the “E” in the P/E ratio (Price-to-Earnings ratio), one of the most common valuation metrics. If a stock costs $50 and has an EPS of $5, its P/E ratio is 10. That helps you decide if the stock is cheap or expensive.
Common Mistakes to Avoid
Forgetting About Preferred Dividends
If you don’t subtract preferred dividends, you’ll overstate the profit available to common shareholders. That gives you a falsely high EPS.
Using the Wrong Share Count
Don’t just grab the ending share count. Use the weighted average. Companies constantly buy back or issue shares, and the weighted average accounts for that timing.
Ignoring Context
As TD Bank points out, there’s no definition of a “good” or “bad” EPS value, but all other things being equal, the higher a company’s EPS is, the better. But context matters. A growing tech startup might have negative EPS while building market share. That’s different from an established company suddenly posting negative EPS.
Quick EPS Calculation Steps: Your Complete Checklist
- Find the company’s net income (bottom of income statement)
- Subtract preferred dividends (if any)
- Calculate the weighted average shares outstanding
- Divide step 2 by step 3
That’s it. You now know the profit earned per share.
Putting It All Together
- Higher EPS means more profit per share.
- Growing EPS signals business momentum.
- Diluted EPS gives you the conservative estimate.
- Always compare EPS within the same industry.
This one number helps you compare companies, track growth, and make smarter investment decisions. The higher the EPS (and the faster it’s growing), the more profitable each share becomes.
Thank you for being with me.
Mehrab Musa Signing Off.
