Earnings per share (EPS) is calculated by dividing a company’s net profit after taxes by its total number of shares outstanding.

Note: If the company issues preferred dividends, then these too must be subtracted out of net profit before dividing by total number of shares.

EPS is most commonly reported on a yearly or quarterly basis. If the total quantity of outstanding shares changes during a given reporting period, then a weighted average is used as the total outstanding share count.

EPS is a measure of a company’s profitability. It is a useful method of comparison when shopping for stocks; use EPS to find out which company is generating the best return on its investment dollars. EPS should not be the only comparative measure considered, as various other factors such as debt levels can affect the stability and significance of EPS values.

It can be insightful to observe EPS over a period of time in order to evaluate a company or sector’s trajectory, watching to see whether the EPS improves or deteriorates.

When a company reports better-than-expected EPS, this often causes its stock price to rise. A company with strong earnings will be in a better position to increase dividend payments or make new growth-spurring investments.

Related: How do bonds work?

What is Diluted EPS?

Diluted EPS is a term you will hear from time to time.

Companies issue various types of securities that can be converted into shares of stock, such as employee stock options. A diluted EPS is a measure of what the EPS would be if all of these convertible securities (also known as “dilutive securities”) were converted into stock at the same time.

Such an event is not likely to happen.

But analysts do not like it when there is a significant difference between a company’s regular EPS and its diluted EPS, because it signals that shareholders are vulnerable to having their equity in the company reduced.

Related: What are options?

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