Why Analysts Care About Earnings Per Share
Simply comparing the price of two stocks means nothing. Each share gives an investor a small piece of ownership in a company, but the price of a stock doesn’t tell you how much ownership in the company an investor is buying. Two companies may both offer shares at $10, but Company A is only worth a total of $10,000, while Company B is worth $100,000. In that case, Company A shares give you a 10% higher stake in the company, because only 1,000 shares exist ($10,000 total value ÷ $10 per share). This is also known as the number of shares outstanding. At $10 per share, and with a total valuation of $100,000, Company B has 10,000 shares outstanding. However, knowing how much of a company you own doesn’t tell you anything about how well the company is doing. To get a sense of a company’s financial health, analysts will often look at a company’s earnings. And like a company’s stock price, the earnings figures alone don’t tell investors how the two companies stack up against each other. For example, let’s say that both Company A and Company B report total earnings of $10,000. Does that mean that both companies are equally valuable to investors? No, they aren’t, and that’s because Company B’s earnings are being split up among more investors. By considering both of these data points—analyzing both the number of shares outstanding and a company’s total earnings—investors get a more clear picture of how valuable a stock actually is. This is known as calculating a company’s earnings per share.
How to Calculate Earnings Per Share
The EPS calculation is fairly simple—just take a company’s net earnings and divide them by the firm’s outstanding shares. In other words: EPS = net earnings ÷ outstanding shares Both of these data points are easy to find on any publicly-traded company’s quarterly earnings reports. You’ll also find the EPS listed on a company’s quarterly report, but it’s important to know how to make the calculation yourself. You can practice the calculation by using the example above. Company A had earnings of $10,000 and 1,000 shares outstanding, which equals an EPS of $10 ($10,000 ÷ 1,000 = $10). Company B also had earnings of $10,000, but with 10,000 shares outstanding, which equals an EPS of $1 ($10,000 ÷ 10,000 = $1). Therefore, from an EPS standpoint, Company A is a more enticing investment opportunity.
Types of EPS Numbers
That’s all there is to calculating the EPS, but when you see an EPS listed online or in a company report, it’s important to note the data set being used by an analyst. Analysts often use three types of EPS numbers, all of which can help you better compare stocks:
The trailing EPS uses last year’s numbers, making it the only EPS that isn’t speculative.The current EPS uses numbers from all four quarters of the current fiscal year, including projections of expected earnings and outstanding shares in quarters that haven’t yet happened.The forward EPS uses future numbers to make projections for a company’s expected performance in the years ahead.
Don’t Invest on 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. Savvy investors examine a wide range of information before buying a stock, including more of the company’s financial ratios, as well as any news reports on the company, the overall industry, and the broader stock market.
