What are Earnings?
Earnings are profits available for ordinary equity shareholders.
What are Earnings per Share?
Earnings per share is a measure of the amount of earnings in a financial period for each ordinary share.
EPS and Investors
Investors want to know if they invest in your company – will they get a dividend?
They’ll also use EPS a performance measurement and are interested in the EPS trends over time and also the size of the EPS compared to the share price of the company’s shares.
EPS and Creditors
Creditors want to know that, if they lend you money, will you be able to pay them back, both their principal and their interest?
Rules for Calculating EPS
EPS should be calculated by all companies in a standard way, so that users can compare the earnings per share and price-earnings ratio of different companies reliably.
The rules for calculating EPS are set out in IAS 33 Earnings per share.
IAS 33 governs the calculation and presentation of EPS in the financial statements.
As its name implies, EPS is calculated as the profit earned in the period divided by the number of ordinary shares in issue.
The calculation of EPS can get a little bit tricky when we look at:
- shares that were issued during the period, or
- if there are potential ordinary shares which could ‘dilute’ the EPS
Importance of Consistency
Now, EPS is a figure that needs to be calculated on a consistent basis, so we know from year to year whether EPS is going up or down.
If you ever watch the financial channels on television you’ll see when the earnings per share is above analysts expectations, the share price shoots up, but if the EPS is below analyst’s expectations, the share price will drop.
Users need the earnings per share to be calculated on a consistent basis, so that they can compare the results to previous periods, or other similar companies.
EPS Allows Comparison
By standardising the calculation and presentation of EPS it makes it easier for the users of financial statements to compare the performance of:
- different companies in the same accounting period, and
- the same company for different accounting periods
EPS is Not Actual Dividends
Don’t mix up earnings per share with the amount you’ll actually get as a dividend.
It tells the investors how much they COULD be getting as a dividend, but doesn’t mean they’ll actually get it.
The company might want to hold onto some funds for investing, or expanding.
In most cases companies will hold onto some of the earnings and will give away some as dividends.
Scope
IAS 33 Earnings per share applies only to publicly-traded entities or those which are about to be publicly traded.
This means only companies with shares listed on the stock exchange need to publish EPS figures in their financial statements.
If the entity is a group of companies and is preparing consolidated accounts, the EPS only needs to be presented on the consolidated financial statements.