Which formula defines earnings per share (EPS)?

Which formula defines earnings per share (EPS)?

• A. Net income / average common shares outstanding.
• B. (Net income - preferred dividends) / average common shares outstanding.
• C. Revenue / shares outstanding.
• D. Net income / total assets.

Answer: (B)

Earnings per share shows how much profit is available to each share of common stock. It reflects earnings after the needs of preferred stockholders are satisfied, so only the earnings belonging to common shareholders are divided by the number of common shares. The correct formula uses net income minus any preferred dividends in the numerator, because preferred stockholders have priority over earnings. The denominator should be the average (typically weighted-average) number of common shares outstanding during the period, which smooths out changes in share count. Using net income alone would overstate the amount available to common shareholders, so that option is not correct. Using revenue or total assets in the denominator would measure different concepts (revenue per share or return on assets, respectively), not EPS.

Earnings per share shows how much profit is available to each share of common stock. It reflects earnings after the needs of preferred stockholders are satisfied, so only the earnings belonging to common shareholders are divided by the number of common shares.

The correct formula uses net income minus any preferred dividends in the numerator, because preferred stockholders have priority over earnings. The denominator should be the average (typically weighted-average) number of common shares outstanding during the period, which smooths out changes in share count.

Using net income alone would overstate the amount available to common shareholders, so that option is not correct. Using revenue or total assets in the denominator would measure different concepts (revenue per share or return on assets, respectively), not EPS.