Definition: Diluted earnings per share (EPS) convey the earnings figure after considering that all outstanding convertible securities have been exercised. It is different from the basic EPS, which tells us the earnings per share for the shares that are currently outstanding.
What does Diluted EPS mean?
A company may have issued convertible preferred shares, warrants, and convertible debentures. It may also have granted stock options to its employees. All these could result in the number of shares outstanding going up. The diluted earnings per share figure assumes that all these additional shares have been issued by the company.
In most instances, the diluted EPS figure would be lower than the basic EPS. That’s because practically every company has issued securities that will result in the number of shares outstanding going up in the future.
Investors use diluted EPS to estimate the return that they would get if they purchase a company’s stock. While the basic EPS reflects the current situation, the diluted EPS figure helps to calculate the earnings at a future date.
Here’s the formula that you can use to calculate diluted EPS:
Diluted EPS = (Total income – Preferred dividends) divided by (Outstanding shares + Diluted shares)
Example of Diluted EPS
Cyntax Systems, a company that provides computer software to the chemical industry, earns a net income of $32.33 million in the year ended December 31, 2017. The shares outstanding position is as follows:
Shares outstanding on December 31, 2017 = 76,312,748
Fully diluted shares = 89,454,345
The company’s basic EPS and fully diluted EPS can be calculated in the following manner:
Basic EPS: $32,330,000 divided by 76,312,748 = $0.42
Fully diluted EPS: $32,330,000 divided by 89,454,345 = $0.36
The diluted EPS figure is very relevant for investors. If there is a large difference between the basic EPS and the diluted EPS, it indicates that the number of shares outstanding could rise sharply in the years to come. This would result in a lower EPS and, possibly, reduced dividends for shareholders.