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Corporate Finance 1

Earnings per share (EPS) measures the net income earned per share of common stock and is calculated by dividing net income minus preferred dividends by the number of shares outstanding. Factors that can increase EPS include an increase in net income through higher revenue or lower costs, and a decrease in the total count of shares through stock buybacks. A lower number of outstanding shares leads to a higher EPS, as earnings are divided by fewer shares.

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11 views2 pages

Corporate Finance 1

Earnings per share (EPS) measures the net income earned per share of common stock and is calculated by dividing net income minus preferred dividends by the number of shares outstanding. Factors that can increase EPS include an increase in net income through higher revenue or lower costs, and a decrease in the total count of shares through stock buybacks. A lower number of outstanding shares leads to a higher EPS, as earnings are divided by fewer shares.

Uploaded by

Afaq Ahmad
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Earnings per share (EPS) ratio measures how many dollars of net income have been earned by each

share of common stock during a certain time period. It is computed by dividing net income less
preferred dividend by the number of shares of common stock outstanding during the period. It is a
popular measure of overall profitability of the company and is expressed in dollars.

Factors That Lead to an Increase in Earnings per Share

Now that we understand which components EPS really consists of and depends on, let’s get a little
deeper into the different factors that can increase earnings per share.

1. Increase in Net Income

The net income figure is the end resulting profit of a business. It’s essentially the amount of money that
a company makes as a profit after subtracting all costs and expenses that are associated with that
revenue during the reported time period.

Net income can either increase by

An increase in revenue. Revenue is the raw income that is generated by the business and its operations.
The revenue figure depends on the price of each sold product and the number of products sold. A
business can, for example, increase revenue by accomplishing more sales.

A decrease in costs. All the money that had to be spent to generate that revenue and operate the
business costs and expenses that need to be subtracted accordingly. These costs and expenses are
generally grouped into several different categories such as costs of goods sold (COGS), sales &
marketing, research and development (R&D), taxes, and interest. Any decrease in those categories will
result in a decrease bottom line (net income) and thus a higher EPS figure.

2. Decrease in the Total Count of Shares

Each company has a certain number of outstanding shares. The count of shares may always change
throughout the lifespan of a company. Since EPS represents the earnings of a company for each share, a
decrease in the total amount of shares will result in a higher EPS.

A company can reduce the number of shares outstanding simply by buying back its own stock from the
market. This may happen when a company sees the opportunity to return profits back to shareholders
or when it can benefit from a share repurchase (for example, to reduce equity financing costs, boost
investors confidence or take advantage of undervaluation).
When a business buys back shares, the total count of repurchased shares will be taken out of circulation,
which will then result in a lower number of outstanding shares. Because net income (earnings) are now
divided by a lower number of shares, the earnings per share (EPS) ratio will automatically increase
accordingly.

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