 Hello and welcome to the session in which we will discuss earnings per share as part of our series discussing the income statement. The first thing I would like to let you know is this topic earnings per share or EPS is covered much much more in depth in another chapter so this is just an introduction a basic introduction and the reason we need to cover earnings per share is there's two reasons actually one is earnings per share is listed on the face of the income statement two since we discussed this continued operation in the prior session earnings per share is also expressed as part of the discontinued operation figures so it's very important to cover this topic for now just to kind of introduce ourselves to it but earnings per share is a major challenging topic that we'll have to deal with later on so if you see this recording is short which will be very short don't think that this is all you have to know about earnings per share although earnings per share is covered briefly either chapter three or chapter four intermediate accounting there's a one whole chapter one whole chapter devoted for earnings per share because it's really challenging and earnings per share is an important indicator in the real world so for example if you watch CNBC if you read The Wall Street Journal if you follow Bloomberg Wall Street they always look at every company to determine what's there for every quarter what's their earnings per share how much did they earn how much did you earn earnings per share because when you're looking at two companies your concern is as a shareholder how much did I earned for each share let's assume we have company A and company B company A earned a million dollars company earned a company B earned 100 million dollars if I ask you would you like a share one share of company A or would you like one share of company B well for now you it's million what what if I told you company A they have in total one million shares in total one million shares in company B they have in total 200 million shares but here's what's going to happen we're going to take the earnings which is a million and one million and 100 million if I take for company A one million and earnings divided by one million and shares for company A I am earning one dollar per share if I do the same thing for company B yes the company earned 100 million ten times that of company A however I have to share this earning with 200 other million shareholders or 200 million shares therefore my earnings per share for company B is 50 cent therefore just given this limited information if you want to give me a stock of company A or company B I would say give me a stock of company A because company A stock earns on average a dollar per share now you're not going to get this dollar but not paid you won't get paid this is when they pay it in dividend but in theory that's how much you are earning per share now earnings per share is very important that it must be this this closed on the face of the income statement and there's a whole section in the notes explaining the computation for earnings per share now for the purpose of today of this session we assume we have a simple capital structure and we're going to talk more about simple capital structure later on because if it's not a simple capital capital structure the the computation will be much more involved so simply put earnings per share is computed as net income what the company earned minus any preferred dividend now again for now don't worry what a preferred dividend are but preferred dividend is a form of dividend is form of the profit that's distributed to certain shareholders that's all you need to know now so we have to deduct certain amount to prefer dividends so before you could compute your if we go back to company A and company B and what I did the company A and company B I preferred we have zero preferred dividend because we don't have a preferred shareholders to simplify the process but if you have a preferred shareholders preferred shareholders they get their money first therefore we deduct their share of the earnings before we distribute it to the common shareholders or common stock then we'll divide by something called the weighted average the weighted average of common shares outstanding now for this session this number is giving but don't worry later on you have to compute this number the weighted average number of shares outstanding so let's take a look at a simple example to see how we compute earnings per share adam ink reports half a million it declares and pay dividend of 100 000 so okay the weighted average number of shares is 100 000 so we're going to take what's earnings per share we're going to take the earnings half a million however we have to take out of the earning 100 000 and give it to those preferred they have a preferential treatment 100 000 what's left is 400 000 in the numerator in the denominator we have 100 000 shares 400 000 divided by 100 000 you are earning four dollars per share is this a good number four dollars per share well it depends what did you earn in the prior quarter what what did you earn last year what are your competitors earning obviously the higher the better and also earnings per share we will learn later on and you would learn much much more about this ratio when you take your corporate finance it basically it's the main driver of the stock price and that's why when i started i said wall street analyst investors they look at earnings per share as the base for making investment decisions that's what really frankly that's what drives the stock price earnings per share now again about the about the presentation about earnings per share this is a partial income statement where we have income from continuing operation 250 000 then we have a discontinued operation section now if you don't know what this discontinued operation please go to the prior session we already covered discontinued operation in the tail so we had income from operation of the health care division which is we discontinued the the amount of income is 59 000 to 50 net of tax well really the income was 75 000 then we took out 21 percent in taxes which is 15 750 so what we end up with is 59 000 to 50 so notice we have we had to pay taxes also we sold that division less applicable tax of 20 000 it means we sold it for 100 000 and we're assuming the tax is 21 percent so we pay taxes of 21 000 what's left for the income is 79 so what we do is we take those two add them all together 138 250 income from continuing operation plus income from discontinued operation equal to net income of 388 250 now what we need to do we need to compute EPS earnings per share for each of these sections separately we're gonna assume we have 100 000 shares outstanding well what we do is this we're gonna compute income from continuing operation income from continuing operation is 250 divided by 100 000 our income from continuing operation is 250 we'll do the same thing for the income from the health care division 59 000 to 50 divided by 100 000 shares and it's 0.5925 i'm just gonna say just 0.59 and 79 000 divided by 100 000 shares now if we add them up earnings per share overall is 388 now as an investor and this is the this is why i made this example as positive as an investor you don't care about 388 why because remember the health care division is being discontinued so what's going to happen those 59 pennies and 79 pennies that you earned they are non-recurring so really when you're evaluating the company determining the stock price you would look at earnings per share and i will tell you something you know real quick about earnings per share what most companies would do or historically the S&P 500 they would say okay what's your earnings per share and depending on your growth we multiply this by let's assume 15 or 20 and if we take 2.5 times 20 two dollars and 50 cent times 20 your stock price should be around 50 dollars okay this is how they estimate your stock price 20 is 20 times so i'm going to be paying since you're earning 250 per share i'm willing to pay 20 times your price this is the multiple the multiple is 20 now how do we determine the multiple well depending on how fast or what's the growth what's the growth capability of the company if the company has a tremendous growth capability early on this this acts this earnings this multiple could be in the hundreds then guess what if it's in the hundreds the stock price will be higher but eventually historically historically this earning multiple ranges between 12 to 25 so you'll take the earnings per share multiplied by this number and this you this is historically the number but again with technology stocks with fast growing companies the multiple could be very high for example of the multiple for this company we determine the multiple in other words the multiple how is that determined it's determined with the growth what's your potential growth if that's the case then your stock price should be 100 who determined the multiple the investors how much are they willing for that 250 we know the company is earning two dollars and 50 cent per share from their continuing operation how much are you willing to pay for that 250 are you willing to pay 40 times the amount if you the more you are willing to pay the more you expect the company to earn it means they have a very very bright future okay that's basically all you need to know about earnings per share at the end of this recording i'm going to remind you whether you are an accounting student or a CPA candidate to take a look at my website farhat lectures dot com i don't replace your CPA review course i'm a useful addition to that CPA review course i explain the material differently your risk is one month of subscription your potential gain is passing the exam don't hesitate the CPA exam is a lifetime industry i do have resources for other courses and my CPA supplemental resources are aligned with your review course such as becker roger wiley gleam so they go hand in hand with those courses good luck study hard and of course stay safe