Earnings Per Share

Earnings per share is the amount of earnings attributable to each share of common stock, and the standard uses the term for a loss per share as well as an earnings per share (FASB Statement No. 128, Appendix E). Basic earnings per share is the amount of earnings for the period available to each share of common stock outstanding during the reporting period, and diluted earnings per share is that amount extended to each share that would have been outstanding assuming the issuance of common shares for all dilutive potential common shares outstanding during the period (FASB Statement No. 128, Appendix E). An entity with anything beyond common stock outstanding reports both figures rather than one (FASB Statement No. 128, paragraph 36), and presentation is required at all only of entities whose securities trade in a public market or that are filing in preparation for such a sale (FASB Statement No. 128, paragraph 6).

How Basic Earnings Per Share Is Computed

basic EPS  =  income available to common stockholders
              /  weighted-average number of common shares outstanding

Basic EPS is computed by dividing income available to common stockholders, the numerator, by the weighted-average number of common shares outstanding during the period, the denominator (FASB Statement No. 128, paragraph 8).

The numerator is a defined term and not simply the bottom line. Income available to common stockholders is income or loss from continuing operations, or net income or net loss, adjusted for preferred stock dividends (FASB Statement No. 128, Appendix E). The adjustment is a deduction for dividends declared in the period on preferred stock and for dividends accumulated for the period on cumulative preferred stock, and where there is a loss the amount of the loss is increased by those dividends instead (FASB Statement No. 128, paragraph 9). What it does to a cumulative class is worked through in preferred stock, and its codified address is ASC Topic 260, paragraph 260-10-45-11 (FASB Accounting Standards Update 2020-06), read the way ASC accounting sets out.

The denominator is a defined term too. The weighted-average number of common shares outstanding is the number of shares determined by relating the portion of time within a reporting period that common shares have been outstanding to the total time in that period (FASB Statement No. 128, Appendix E), so shares issued during the period and shares reacquired during the period are weighted for the portion of the period that they were outstanding (FASB Statement No. 128, paragraph 8). The count itself is worked through in outstanding shares, and the reacquired stock a corporation holds uncancelled is in treasury shares.

The diluted figure keeps that structure and adds to the denominator the shares that dilutive contracts would produce, with the numerator adjusted for the payments an assumed conversion would remove. All of that machinery, the treasury stock and if-converted methods, the antidilution sequencing, the shutdown when a loss from continuing operations exists, and the reconciliation of both computations a filer has to disclose, is in diluted earnings per share.

Which Entities Have to Present the Figure

Scope follows the securities rather than the size of the business. Presentation of earnings per share is required of all entities that have issued common stock or potential common stock, meaning a security or other contract that may entitle its holder to obtain common stock, if those securities trade in a public market, either on a stock exchange, domestic or foreign, or in the over-the-counter market, including securities quoted only locally or regionally, and it is required of an entity that has made a filing or is in the process of filing with a regulatory agency in preparation for the sale of those securities in a public market (FASB Statement No. 128, paragraph 6 and Appendix E).

Two carve-outs and an election sit in the same paragraph. Presentation is not required for investment companies or in statements of wholly owned subsidiaries, and an entity that is not required to present earnings per share but chooses to present it anyway does so under the provisions of the standard (FASB Statement No. 128, paragraph 6).

For a firm’s closely held clients that settles it. Their statements carry no earnings per share line unless the entity elects one, and the election pulls in the whole computation rather than a simplified version of it.

Where the line does appear, the capital structure decides whether it is one figure or two, because an entity with only common stock outstanding presents the basic amounts alone while every other entity presents basic and diluted with equal prominence, both on the face of the income statement (FASB Statement No. 128, paragraph 36).

Two mechanical points follow from that. Earnings per share data is presented for all periods for which an income statement or summary of earnings is presented, and where the basic and the diluted amounts come out the same the dual presentation can be accomplished in one line (FASB Statement No. 128, paragraph 38). The words basic EPS and diluted EPS identify the data to be presented and are not required to be the captions used, so lines captioned earnings per common share and earnings per common share assuming dilution present exactly what the standard asks for (FASB Statement No. 128, paragraph 39).

A Worked Example

Say a corporation reports for a calendar year with one class of common stock and one class of cumulative preferred stock that carries no conversion right, issues additional common shares at the start of the third quarter, and declares no preferred dividend for the year.

Net income                                             5,400,000
Preferred dividends accumulated for the period,
  none declared, on the cumulative class                 600,000

Common shares outstanding, January 1                   2,000,000
Common shares issued, July 1                             800,000

income available to common stockholders
  5,400,000 - 600,000                                  4,800,000

weighted-average common shares outstanding
  January 1 to December 31   2,000,000 x 12/12         2,000,000
  July 1 to December 31        800,000 x  6/12           400,000
  weighted-average count      2,000,000 + 400,000      2,400,000

basic EPS                    4,800,000 / 2,400,000          2.00

The accumulation comes out of the numerator even though nothing was declared, and the new shares enter the denominator only for the half year they were outstanding. Had the preferred class not been cumulative and no dividend been declared, there would have been nothing to deduct and the numerator would have been the full net income figure. With no conversion right on the preferred class there is no potential common stock outstanding, so the diluted amount comes out the same as the basic amount and the two can sit on one line (FASB Statement No. 128, paragraph 38).

What the Measure Is Confused With

The measure divides the period’s earnings and never its revenue, which is the line earnings vs revenue draws.

A stock split is the other common mix-up, because it changes the figure backwards as well as forwards. Where the number of common shares outstanding increases as a result of a stock dividend or stock split, or decreases as a result of a reverse stock split, the computations of basic and diluted EPS are adjusted retroactively for all periods presented to reflect that change in capital structure (FASB Statement No. 128, paragraph 54), so the prior-year figure a reader compares against is not the one that was originally published. The split itself is in stock split.

Common Questions

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