There’s nothing quite like the stock exchange for atmosphere, whether it’s the feel of frenetic glamour during busy trading periods, the eerie quiet and calm of the nighttime, or the times in between the two when you can almost taste the fizzy feeling of high energy building until it suddenly bursts into life.

There’s no wonder then that so many people choose to work as day traders, right in the thick of the action, while thousands more dabble in stocks and shares from their home. With hard work, commitment, the right mindset and the ability to learn how the market works there are plenty of fortunes to be made.

Of course, every planned transaction has the ultimate end goal of making a profit, and to maximise your chances of this it’s pretty important to be both familiar and comfortable with where the most successful deals of the moment are to be had. Learning how to calculate the earnings per share of a stock is a solid way to achieve success, but to do this requires you also learn the earnings per share formula that is used for the calculation.

If the thought of getting familiar with math topics like formulas makes you feel more panicky than excited or interested don’t worry. This handy guide covers the basics of the topic, and includes all you need to know to get started, in language even the most complete beginner to the stock market will feel comfortable with.

A quick look at the two types of shares around

Common stock

Those who hold common stock receive a proportionate amount of the profits made each year for as long as they hold them. They also have the right to vote on whom to elect to the board of directors during the annual shareholders meeting.

Preferred shares

A preferred stockholder also gets a payment once a year, but this is for a fixed amount. They are paid out before the common stock holders, but they may receive less per share held. Preferred stock holders are not entitled to vote in the annual shareholders meeting, but in the case of a company going bankrupt they are paid before the common stockholders.

A definition of ‘earnings per share’

Basically this is a term used to measure how financially healthy a company is. Earnings per share [EPS] refers to the percentage of profit made which is attached to every share of stock on the market. So assuming 100% of the profit made in a period of time was distributed equally the shareholders would get their dividend based on the EPS value. This is the most important element of proof a company needs to demonstrate it is doing well, and as such it is often referred to as being ‘the bottom line’.

Three types of EPS

These differ depending mainly on where the data has been taken from. They are:

  • Trailing EPS

Data is based on numbers from the previous trading year. This is the most common EPS approach as the data is actual, rather than projected, but in some instances this also makes it feel a little ‘old hat’, leading to some investors looking at other types of EPS as well, to gain a bigger picture.

  • Current EPS

Data is often based on both current and projected numbers, depending on which point of the fiscal year you have hit.

  • Forward EPS

Data is based on future (projected) numbers, usually for the upcoming four quarters, and it is devised either by the company and/or data analysts. The forward EPS can help some investors decide if they wish to make a trade or not.

How to Calculate Earnings Per Share

Take a breath here, it really isn’t overly complicated. The earnings per share rate of a company are calculated like this:

EPS = A company’s NET INCOME (minus) the total number of PREFERRED STOCK

          DIVIDENDS minus the NET PROFIT.       

          The NET PROFIT is shared by the number of COMMON SHARES

          OUTSTANDING to produce the EPS figure. 

If a company only offers common shares a different, more straightforward formula is used to calculate the EPS. This is:

NET INCOME shared by the average number of OUTSTANDING COMMON SHARES equals the EPS figure.

Does the actual earnings per share figure matter?

It may appear to a novice that any plus EPS figure is a good thing, and, of course, it is. However, the actual EPS figure is important in its own right. For example:

  • the higher the EPS the better the dividend payments are likely to be

  • anyone looking to invest in the market is inevitably going to compare the earnings per share figures of two or more companies in the same field before making a final decision on which to go for.

  • Tracking the history of a company’s EPS results can help indicate either problems, notably if the EPS seems to drop yearly, or reflect market trends if, say, the results rise and falI in line with economic influences.

  • How do you know if a stock is really worth the value placed on it? The EPS helps as it reflects the ‘e’ (earnings) section of what is known as the ‘price-earnings ratio’. This is a popular way investors decide if the stock price on offer by a company properly reflects the earnings said company reported. To utilise this successfully you need to be aware that a company which reinvests profits to boost growth, common in start-ups but seen in established businesses too, can affect both the EPS and the P/E ratios.

Now you have the background, basic facts and simple examples of how to calculate the earnings per share of a stock using the formula the whole issue should be a lot clearer, and make your time spent on the stock exchange both easier and as lucrative as it can be.

 

Published by Johanne Cosihan