SHARETIPSINFO >> Articles Directory >>Earnings per share (EPS) ratio and what it means?
When you are considering the price of a stock, it will hardly give you any idea whether it is a good stock to invest in or not. The current stock price will tell you at what price you can buy the stock or what will you get after you sell the stock. The earning of the company though is an indicator of the financial standing of the company it doesn’t give you a chance to compare one company to the other to judge which one is a better company to invest in. For example if two company posts same earnings in a particular year, you can not really judge which one is better. This is because these two companies will have different number of shares in the market and that will create a difference in the standard of the company. Theoretically a company with less number of shares is more successful if compared with a company that has got more number of shares and with the same earnings. That is why EPS or earnings per share ratio is the ideal formula to compare both the shares in a common platform.
To simply put in earnings per share ratio or the EPS is the ratio of the net earning of the company and the total number of common shares issued by the company. This is the simplest form of calculating EPS and there are at least three different formulas to calculate the EPS.
- Basic formula of calculating the EPS – Profit is divided by the Weighed average of the common shares.
- Net Income formula of calculating EPS – In this formula the Net Income of the company is divided by weighted average of the common shares.
- Continuing Operations formula of calculating the EPS – To derive the EPS in this formula the income from continuing operations is divided by the weighed average of the common shares.
The Weighted average of the common shares is calculated by taking the average of the common shares that were outstanding in the past one year. For example, if a company has an outstanding share of 10 million for half a year and 15 million shares the weighed average of the shares will be – 0.5 x 10M + 0.5 x 15M = 12.5M.
There is another form of EPS that is called the Fully Diluted EPS. For calculating the fully diluted EPS other equivalent of the common shares are also considered along with the common shares. These equivalents that are considered include the convertible bonds, warrants, rights and preferred stocks.
Earning per share or EPS is considered as an indicator for choosing the stocks for investment. On the basis of the EPS it is determined what is the earning of the company per share. As earning of the company is a vital part of the fundamental analysis of the stocks, and EPS is a standardized form of calculating the earning, it helps to compare the earnings of the companies while making the selection of stocks by the traders. For considering the potential of a particular company the Earnings per share or the EPS of the company for the past few years are considered by the experts. The sign of a potentially good company is the rising EPS for the successive years. It is believed that a higher EPS is a sign of a profit making company. Therefore, while choosing the stocks for investment EPS is a vital parameter that you can not miss.
EPS or the earning per share ratio is also a vital parameter for deducting the P/E ratio of a particular stock. P/E ratio is calculated by dividing the current price of a single share of a stock with the EPS of that stock. The P/E ratio is one of the predominant indicators of the potential of a stock and EPS is obviously plays a crucial part in calculation of the P/E ratio. So there is no doubt about the fact that EPS of a particular stock is very much important in fundamental analysis of the stocks. If you want to choose the right stocks for investment you must take a serious consideration about the EPS of the stock along with other parameters that are important for fundamental analysis.
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