What Are Primary Earnings Per Share (EPS)?
Primary earnings per share (EPS) is a measure of a company's earnings per common share, prior to the conversion of any outstanding convertible securities. It is one of two methods for categorizing shares outstanding. The other method is fully diluted earnings per share (Diluted EPS). The term "basic EPS" is more commonly used instead of "primary EPS." Basic EPS is the simpler method to categorize outstanding shares, as it uses the number of shares currently available for trading. To calculate basic EPS, divide net income by the number of shares outstanding.
Primary Earnings Per Share has largely been called Basic Earnings Per Share since 1998.
Earnings Per Share Explained
Understanding Primary Earnings Per Share (EPS)
Diluted EPS is more complicated to compute than Primary Earnings Per Share (EPS), but it is considered more conservative because it takes into account all the outstanding convertible shares, warrants, and options that could potentially be converted to tradable shares. If none of these financial instruments are outstanding, diluted EPS and primary EPS will be equal.
Primary EPS does not take into consideration the dilution of earnings available to each common share upon the conversion of convertible securities or the exercise of certain warrants which may be outstanding. If there are securities outstanding that could be converted into common shares, the primary EPS will be higher than fully diluted EPS.
EPS can be calculated in many different ways depending on the accounting methods and assumptions the company uses. Investors taking EPS into account in any decision-making process should understand how the EPS figure they are using was calculated.
Example of Primary Earnings Per Share Calculation
For example, a company has a net income of $40 million and pays out $5 million in dividends to preferred stockholders. The company has 12 million shares outstanding for the first half of the quarter and 13 million shares outstanding for the second half, or an average of 12.5 million shares. In this case, you would calculate earnings per share as follows:
$40 million – $5 million = $35 million
$35 million ÷ 12.5 million shares = $2.80 per share share
Thus this company's earnings came to $2.80 per share.
We can extend this example to include the effects of dilution. Let's say this company had 2 million convertible preferred shares. Now, the denominator (outstanding shares) becomes 14.5 million effective shares outstanding. Hence, $35 million ÷ 14.5 million shares = $2.41 per share. Here we can see the effects of earnings dilution.