ahneng Posts: 1, Reputation: 1 New Member #1 Mar 22, 2007, 01:15 AM
Basic earnings per share and diluted earnings per share
:confused: what is the different between Basic earnings per share and Diluted earnings per share :confused:
 CaptainForest Posts: 3,645, Reputation: 393 Ultra Member #2 Mar 22, 2007, 01:02 PM
The following is thanks to Investopedia.com - Your Source For Investing Education

Earnings Per Share (EPS)

The portion of a company's profit allocated to each outstanding share of common stock. EPS serves as an indicator of a company's profitability.

Calculated as:
(Net Income – Dividends on Preferred Shares) / Average Shares Outstanding

In the EPS calculation, it is more accurate to use a weighted-average number of shares outstanding over the reporting term, because the number of shares outstanding can change over time. However, data sources sometimes simplify the calculation by using the number of shares outstanding at the end of the period.

Diluted EPS expands on the basic EPS by including the shares of convertibles or warrants outstanding in the outstanding shares number.

Earnings per share is generally considered to be the single most important variable in determining a share's price. It is also a major component of the price-to-earnings valuation ratio.

For example, assume that a company has a net income of \$25 million. If the company paid out \$1 million in preferred dividends and had 10 million shares for one half of the year and 15 million shares for the other half, the EPS would be \$1.92 (24/12.5). First, the \$1 million is deducted from the net income to get \$24 million. Then a weighted average is taken to find the number of shares outstanding (0.5 x 10M+ 0.5 x 15M = 12.5M).

An important aspect of EPS that's often ignored is the capital that is required to generate the earnings (net income) in the calculation. Two companies could generate the same EPS number, but one could do so with less equity (investment) - that company would be more efficient at using its capital to generate income and, all other things being equal, would be a "better" company. Investors also need to be aware of earnings manipulation that will affect the quality of the earnings number. It is important not to rely on any one financial measure, but to use it in conjunction with statement analysis and other measures.

Diluted Earnings Per Share (Diluted EPS)

A performance metric used to gauge the quality of a company's earnings per share (EPS) if all convertible securities were exercised. Convertible securities refers to all outstanding convertible preferred shares, convertible debentures, stock options (primarily employee based) and warrants. Unless the company has no additional potential shares outstanding (a relatively rare circumstance) the diluted EPS will always be lower than the simple EPS.

Remember that earnings per share is calculated by dividing the company's profit by the number of shares outstanding. Warrants, stock options, convertible preferred shares, etc. all serve to increasing the number of shares outstanding. As a shareholder, this is a bad thing. If the denominator in the equation (shares outstanding) is larger, the earnings per share is reduced (the same profit figure is used in the numerator).

This is a conservative metric because it indicates somewhat of a worst-case scenario. On one hand, everyone holding options, warrants, convertible preferred shares, etc. is unlikely convert their shares all at once. At the same time, if things go well, there is a good chance that all options and convertibles will be converted into common stock. A big difference in a company's EPS and diluted EPS can indicate high potential dilution for the company's shares, an attribute almost unanimously ostracized by analysts and investors alike.