A Primer on How to Calculate Earnings Per Share
It's not as hard as you think
If you want to compare stocks between different publicly-held companies, it's helpful to know how to calculate a metric called earnings per share (EPS). One of the challenges in evaluating stocks is establishing an “apples to apples” comparison between two dissimilar companies. Using EPS allows for a meaningful comparison that can help you make more informed investment decisions.
Comparing Stock Prices
Simply comparing the price of two stocks means nothing, and you can find out more about why in the article “Why Per-Share Price is Not Important." Similarly, comparing the earnings of one company to another really doesn’t make sense, either, because using the raw numbers ignores the fact that the two companies undoubtedly have a different number of outstanding shares, among other differences.
It makes sense to use EPS as a comparison tool. For example, say that companies A and B both have $100 in net income. Company A has only 10 shares of stock outstanding, while company B has 50 shares outstanding. Company A has significantly higher earnings per share, and owning company A's stock will likely reward you more, especially if the company pays dividends because the same earnings are spread over 10 shareholders instead of 50.
Determining Earnings Per Share
The EPS calculation involves taking the target company's net earnings and dividing them by the firm's outstanding shares:
EPS = Net Earnings / Outstanding Shares
Using the example above, Company A had earnings of $100 and 10 shares outstanding, which equals an EPS of 10 ($100 / 10 = 10). Company B had earnings of $100 and 50 shares outstanding, which equals an EPS of 2 ($100 / 50 = 2).
So, you should go ahead and buy Company A with an EPS of 10, right?
Perhaps, but it's best not to make this decision on the basis of its EPS alone.
The EPS helps when comparing one company to another, assuming they are in the same industry, but it doesn’t tell you whether it’s a good stock to buy or what the market thinks of it. For that information, you need to examine some of the company's financial ratios, market news, and other information.
Types of EPS Numbers
Before calculating the earnings per share, it's important to note that this equation doesn't just refer to one figure. Rather, analysts often use three types of EPS numbers:
- Trailing EPS: last year’s numbers and the only actual EPS
- Current EPS: this year’s numbers, which are still projections
- Forward EPS: future numbers, which are obviously projections
Knowing the various forms of EPS numbers can help you better compare stocks, but you'll still need to do additional research to determine if any one stock is worthy of your investment.
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