Earnings per share

Question 1

Why is EPS so important?

Answer 1

Earnings per share is one of the most important indicators of a company’s performance.

• Can compare the EPS of different entities
• Can compare EPS in different accounting periods.

Question 2

How can it be used to compute major stock performance indicators?

Answer 2

Price to Earnings ratio = (market value of share / EPS)

Question 3

What is the ratio for Basic earnings per share?

Answer 3

Earnings (attributable for ordinary shareholders) / Shares.

Earnings are the net profit/loss for the period attributable to ordinary equity holders of the parent.

Shares are the weighted average number of ordinary shares outstanding during the period.

Question 4

What are the effects of preference shares?

Answer 4

The existence of preference shares may affect the calculation of Earnings attributable to ordinary shareholders.

Question 4

Redeemable preference shares?

Answer 4

Treated as a debt in financial statements and so finance cost will have been removed in P&L.

Question 5

Irredeemable preference shares?

Answer 5

Treated as equity so dividend must be deducted from net profit in P&L, to get earnings attributable to ordinary shareholders. (company doesn’t buy them back at the end.

Question 6

Cumulative preference shares?

Answer 6

This is when you should always pretend dividends have been paid in the correct period.

Question 7

What happens when a firm issues shares at full market prices?

Answer 7

• when issuing new share capital at full market value it will increase share capital and earnings (not always proportionally)
• To calculate correct EPS figure, earnings should be divided by the weighted average equity of share capital.

Question 8

What do you do about bonus issues?

Answer 8

• they are deemed to have been issued at the start of the year
• comparative figures are restated as if the bonus issue had always been in place
• when you have a bonus issue for EPS, pretend they have always been there.

Question 8

What is a bonus issue?

Answer 8

• the issue of new shares to existing shareholders in proportion to their existing holdings.(no cash received)
• Issue needs to be funded from equity (assume share premium is used as its non-distributable)

Question 8

What are the accounting entries for bonus issue?

Answer 8

Dr Share Premium (no. of shares x
nominal value)
Cr Share Capital (No. of
shares x nominal
value)

Question 9

What are the properties of a bonus issue?

Answer 9

• shares offered to existing shareholders for free
• doesn’t provide additional resources to company by issuing them
• means shareholder owns the same proportion of business before/after the issue.

Question 10

What is a rights issue?

Answer 10

• offer of new shares to existing shareholders in proportion to their existing at a stated price
• price usually below market value but above nominal
• accounted for the same as a normal issue.
• combined characteristics of issues at full market price and bonus issues as you’re giving away shares at a discount.

Question 11

What happens when a company buys back shares?

Answer 11

• Dr Treasury Shares
• Cr cash
• share capital remains the same as they are a separate part of the entity.
• from an EPS perspective this will reduce the number of shares in issue. An adjustment is required to the weighted average number of shares.