EPS ANALYSIS

By: Simranjeet Singh

MBA –A
28
 EPS
• The formula for calculating the earnings per share (EPS) is as follows.

Earnings Per Share (EPS) = (Net Income – Preferred Dividends) ÷ Weighted Average Common Shares Outstanding
(given in para 10 of the standard)
• The roll-forward schedule to calculate (and forecast) a company’s basic shares outstanding is the following:
• Ending Basic Shares Outstanding = Beginning Balance + New Stock Issuances – Stock Buybacks
• For the purpose of calculating basic earnings per share, the number of ordinary shares shall be the weighted
average number of ordinary shares outstanding during the period. (19)
• Net Income → The net income, often referred to as the “bottom line”, is the after-tax residual profits generated by
a company in a given period, once all operating and non-operating costs are deducted.
• Preferred Dividends → Preferred stockholders are of higher priority (in terms of liquidation preference) than
common shareholders in a company’s capital structure. Since the EPS metric represents the earnings to common
(not preferred) shareholders, we must deduct any dividend issuances distributed to preferred stockholders.
• Weighted Average Common Shares Outstanding → The shares outstanding of a company refer to the total number
of units of ownership issued by the company to date, after subtracting the number of shares that were retired via
stock repurchases. The weighted average—the average between the beginning and end of period balance—is used
to align the timing mismatch between the numerator and denominator.
 Amount (in Liabilities Amount (in
Item Amount (in $) Assets $) and Equity $)
Revenue 1,500,000 Cash 500,000 Liabilities
Accounts Accounts
Cost of Goods Sold 750,000 300,000 150,000
Receivable Payable
Gross Profit 750,000 Short-Term
Inventory 200,000 100,000
Debt
Operating Expenses 350,000 Property,
Plant, and 1,000,000 Equity
Operating Income 400,000
Equipment
Interest Expense 10,000 Common
Total Assets 2,000,000 500,000
Stock
Income Before Taxes 390,000 Retained
250,000
Income Tax Expense 90,000 Earnings
Total Total
Net Income 300,000 Liabilities and 2,000,000 Liabilities and 2,000,000
Equity Equity

Item Amount (in $)

Number of
10
Convertible Bonds
Conversion Ratio 1 bond = 20 shares
Interest Expense on
10,000
Bonds
 Calculation Formula Amount
(Net Income -
Preferred
BASIC EPS Dividends) / ($300,000 - $0) /
Basic EPS
Weighted Average 100,000 shares= $3
Common Shares
Outstanding

Calculation Formula Amount

Potential Common Shares from Number of Convertible Bonds ×

10 bonds × 20 shares/bond
Convertible Bonds Conversion Ratio

DILUTED EPS
(Net Income - Preferred
Dividends) / (Weighted Average
($310,000 - $0) / (100,000 shares +
Diluted EPS Common Shares Outstanding +
200 shares)=$3.09
Potential Common Shares from
Convertible Securities)
 IND AS 33 OBJECTIVE

• The main objective of Ind AS 33 is to prescribe principles for the

determination and presentation of earnings per share, so as to improve
performance comparisons between different entities in the same reporting
period and between different reporting periods for the same entity.
 SCOPE
• 1. This Indian Accounting Standard applies to companies that have issued ordinary shares to which
Indian Accounting Standards notified under Part I of the Companies (Accounting Standards)
• 2. An entity that discloses earnings per share shall calculate and disclose earnings per share in
accordance with this Standard.
• 3. When an entity presents both consolidated financial statements and separate financial statements
prepared in accordance with Ind AS 27 Consolidated and Separate Financial Statements, the
disclosures required by this Standard shall be presented both in the consolidated financial statements
and separate financial statements.
• 4. In consolidated financial statements, such disclosures shall be based on consolidated information
and in separate financial statements, such disclosures shall be based on information given in separate
financial statements. 3
• 5. An entity shall not present in consolidated financial statements, earnings per share based on the
information given in separate financial statements and shall not present in separate financial
statements, earnings per share based on the information given in consolidated financial statements.
 RETROSPECTIVE EFFECT

Retrospective adjustments in Ind AS 33 refer to the adjustments made to the calculation of basic and
diluted earnings per share for all periods presented due to changes in the number of ordinary or potential
ordinary shares outstanding. Here are the key points to note:
• 1. If the number of ordinary or potential ordinary shares outstanding increases as a result of a
capitalization, bonus issue, or share split, or decreases as a result of a reverse share split, the
calculation of basic and diluted earnings per share for all periods presented shall be adjusted
retrospectively.
• 2. If these changes occur after the reporting period but before the financial statements are approved for
issue, the per share calculations for those and any prior period financial statements presented shall be
based on the new number of shares
• 3. The fact that per share calculations reflect such changes in the number of shares shall be disclosed.
• 4. In addition, basic and diluted earnings per share of all periods presented shall be adjusted for the
effects of errors and adjustments resulting from changes in accounting policies accounted for
retrospectively.
• 5. The retrospective adjustments ensure that the earnings per share data is accurate and comparable
across different reporting periods, providing users of financial statements with reliable information for
decision-making.
Illustration to calculate Weighted Average
 PRESENTATION
The presentation of earnings per share data in accordance with Ind AS 33 involves
the following details:
• 1. An entity that discloses earnings per share shall calculate and disclose earnings
per share in accordance with this Standard.
• 2. The earnings per share data shall be presented in the statement of profit and
loss or in the notes to the financial statements.
• 3. The earnings per share data shall be presented for both basic and diluted
earnings per share.
• 4. The earnings per share data shall be presented for each class of ordinary shares
that has a different right to share in the profit for the period.
• 5. The earnings per share data shall be presented for the current period and the
comparative period(s) presented.
 PRESENTATION
• 6. The earnings per share data shall be presented in rupees or in the currency of
the primary economic environment in which the entity operates
• 7. The earnings per share data shall be presented to two decimal places.
• 8. The earnings per share data shall be presented separately for profit or loss
from continuing operations and profit or loss from discontinued operations, if
applicable.
• 9. The earnings per share data shall be presented for both basic and diluted
earnings per share, which shall be calculated using the weighted average number
of ordinary shares outstanding during the period.
• 10. The earnings per share data shall be presented in a clear and understandable
manner, providing users of financial statements with reliable information for
decision-making
 DISCLOSURE

The disclosure requirements for earnings per share data in accordance with Ind AS 33 involve the following details:
• 1. An entity shall disclose the amounts used as the numerators in calculating basic and diluted earnings per share,
and a reconciliation of those amounts to profit or loss attributable to the parent entity for the period. The
reconciliation shall include the individual effect of each class of instruments that affects earnings per share.
• 2. An entity shall disclose the weighted average number of ordinary shares used as the denominator in calculating
basic and diluted earnings per share, and a reconciliation of these denominators to each other. The reconciliation
shall include the individual effect of each class of instruments that affects earnings per share.
• 3. An entity shall disclose the fact that per share calculations reflect changes in the number of shares, if applicable.
• 4. An entity shall disclose the fact that per share calculations reflect the effects of errors and adjustments resulting
from changes in accounting policies accounted for retrospectively, if applicable.
• 5. An entity shall disclose the fact that per share calculations reflect the effects of discontinued operations, if
applicable.
• 6. An entity shall disclose the fact that per share calculations reflect the effects of potential ordinary shares, if
applicable.
• 7. An entity shall disclose the fact that per share calculations reflect the effects of contingently issuable shares, if
applicable.
 DISCLOSURE
• 8. An entity shall disclose the fact that per share calculations reflect the effects of options and warrants,
if applicable.
• 9. An entity shall disclose the fact that per share calculations reflect the effects of convertible
instruments, if applicable.
• 10. An entity shall disclose the fact that per share calculations reflect the effects of any other dilutive
potential ordinary shares, if applicable.
• 11. An entity shall disclose the fact that per share calculations reflect the effects of any changes in the
number of shares, if applicable.
• 12. An entity shall disclose the fact that per share calculations reflect the effects of any changes in
accounting policies, if applicable.
• 13. An entity shall disclose the fact that per share calculations reflect the effects of discontinued
operations, if applicable.
• 14. An entity shall disclose the fact that per share calculations reflect the effects of any other factors
that may affect the comparability of earnings per share data between different reporting periods.
• 15. The disclosures shall be presented in a clear and understandable manner, providing users of
financial statements with reliable information for decision-making
 COMPARISON INDAS 33 AND IAS 33
• Ind AS 33 requires EPS related information to be disclosed both in consolidated
financial statements and separate financial statements, whereas IAS 33 provides that
when an entity presents both consolidated financial statements and separate financial
statements, it may give EPS related information in consolidated financial statements
only.

• 2. Different terminology is used in Ind AS 33, as used in existing laws, e.g., the term
‘Statement of profit and loss’ is used instead of ‘Statement of comprehensive income’.
The words ‘approval of the financial statements for issue’ have been used instead of
‘authorisation of the financial statements for issue’ in the context of financial statements
considered for the purpose of events after the reporting period.

• 3. Paragraph 2 of IAS 33 requires that the entire standard applies to all entities, whereas
Ind AS 33 applies to all entities that are required to prepare financial statements in
accordance with Ind AS.
 How to see Manipulation on EPS
• Can happen in two ways- either you manipulate the numerator or you
manipulate the denominator
• The basic yard stick to measure business- Net profits
• Attempts to transform these yardstick always there (Earning management)
• Why? Because the measure of achievement becomes more important then the
accuracy of the measure itself.
• Managers involve in it because of their compensation(linked with EPS)
• Not all sales are final- Take care of the top line and the bottom line will take care
of itself.
• Eg: Lowering the credit standards without simultaneously increasing the bad
debt reserves
 How to see Manipulation on EPS

• Placing orders earlier then suppliers otherwise would because of additional

discounts
• Historical basis to see manipulation
• Comparing it with the competitors
• Talks with the company insiders, and industry experts
• Extra ordinary and non recurring items- readers more concerned about future
 How to see Manipulation on EPS

• Placing orders earlier then suppliers otherwise would because of additional

discounts
• Historical basis to see manipulation
• Comparing it with the competitors
• Talks with the company insiders, and industry experts
• Extra ordinary and non recurring items- readers more concerned about future
 Case study on manipulation of EPS
CHANNEL STUFFING IN THE DRUG
BUSINESS
• April 3, 2002, Bristol Myers Squibb (BMS)- shares plummeted by 14%.
Company said earnings-0.44 to 0.47. Analyst expect- 0.56. total earning to drop
by 25% to 2.41 a share for the year.
• Reasons- discounts to wholesalers in 2001. sales high. Sold more than the
customer demanded. In the next yr, sales slacked as there was stock bloating.
• Channel stuffing- financial reporting gimmick by BMS
• Why they did it- they did it because they have not developed a single major
drug since 1989. Their patemts were expiring
• In 1996 CEO promised 12% not delivered because competition escalated, low
price generic alternatives were there.
 BMS practices that should have been noted

• Pumped up earnings by taking in the earning portions of the restructuring

reserves created in the earlier period
• Practice of making repeated restructuring reserve that were equal to the gains on
asset sales
• Recorded the gain on sales of small product lines without recording them as
divestments or one time events
• Overstated in process R& D
• This was caught by Steven Thighe- by comparing price and revennue from the
data with IMS health.
 Shares outstanding
• One way to manipulate earning per share is to manipulate the number of shares
outstanding
• In 1990’s many company used share buybacks to maintain EPS growth when
faced with constrained oppurtunities for revenue growth
• Shareholder equity reduce- financial risk increases
• Through mergers also these shares outstanding could be increased.
• Certain issues with securities that are compound securities-The main issue is to
distinct the equity abd the liabiilty component for calculating EPS
 Pro forma adjustments And EPS
• Pro forma EPS adjustments are done when certain expenses are losses are held out by the company
to show a rosier picture to the shareholders and investors using the non GAAP measures.
• Proforma adjustments are usually deceptive.
Bharti Infratel
• “Bharti Infratel has consistently reported EBITDA as a non-GAAP measure in its annual reports.
• We calculated EBITDA figures from the financials and compared them with those stated by the
company. In this case, we found several discrepancies.
• There is mismatch in sales figures and EBITDA figures within the annual report for the year
FY2017. EBITDA figures for some past years have been given in the FY2017 Annual Report as a
part of “Performance Review” section.
• However, the EBITDA figures given in this section do not match with the actual EBITDA of
previous years or even the EBITDA stated by the company in annual reports of previous years.
Also, EBITDA of FY2013 does not match with the EBITDA calculated from financials and there is
no calculation provided by the company to show the EBITDA figure has been arrived at.”
 Pro forma adjustments And EPS
Cipla Limited
• The company appears to be managing its disclosure of pro forma measures to cover up
poor performance.
• In FY2013, PAT increased by 34 per cent. However, in FY2012 and in FY2011, PAT
decreased by 8 per cent and 15 per cent respectively. Only in these years, the companY
disclosed EBITDA amounts in the annual reports. As soon as performance improved in
• FY2016 with increase in PAT by 18 per cent, the company discontinued disclosing
EBITDA. EBITDA of ₹21.33 billion stated by the company in FY2014 does not even
match with EBITDA calculated from the financial statements.
• In earnings calls the company reported PAT and EBITDA from FY2015 onwards. Only in
FY2015, when the PAT decreased by 15 per cent as compared to FY2014, the company
did not disclose the EBITDA amount and instead turned around the interviewer’s question
by saying “absolute EBITDA increased by 130 basis points whereas margin fell by 190
basis points”.
 INTEREST
• Interest as Compensation: Interest is the excess cash paid or collected beyond the principal
amount borrowed or loaned, and it serves as compensation for the use of money.

• Factors Influencing Interest: Several factors determine the interest rate, with one of the most
important being the credit risk of the borrower. Other factors include principal amount and time.

• Interest Expense: For companies, interest expense includes the nominal rate paid on debt
financing. In the case of bonds, it also involves the amortization of any discount or premium.
Convertible debt and debt with warrants can complicate interest expense calculation.

• Convertible Debt: Accounting treats convertible debt as having inseparable debt and equity
features. The proceeds from convertible debt issuance are not separately accounted for as
attributable to the conversion feature.
 INTEREST
• Debt with Warrants: When debt is issued with attached stock warrants, the proceeds
attributable to the value of the warrants are accounted for as paid-in capital. This
increases the effective interest cost through the amortization of a debt discount account.

• Interest Capitalization: Interest capitalization is required when constructing or producing

assets for a company's own use. It aims to more accurately measure asset acquisition
costs and amortize them against generated revenues.

• Objective of Interest Capitalization: The primary objectives of interest capitalization are

to accurately measure asset acquisition costs and spread these costs against the revenues
generated by the asset.

• Controversy in Interest Accounting: Current accounting practices for interest on

convertible debt are controversial. Some argue that not considering the value of the
conversion privilege understates the real interest cost.
 INTEREST
• Debt with Warrants: When debt is issued with attached stock warrants, the proceeds
attributable to the value of the warrants are accounted for as paid-in capital. This
increases the effective interest cost through the amortization of a debt discount account.

• Interest Capitalization: Interest capitalization is required when constructing or producing

assets for a company's own use. It aims to more accurately measure asset acquisition
costs and amortize them against generated revenues.

• Objective of Interest Capitalization: The primary objectives of interest capitalization are

to accurately measure asset acquisition costs and spread these costs against the revenues
generated by the asset.

• Controversy in Interest Accounting: Current accounting practices for interest on

convertible debt are controversial. Some argue that not considering the value of the
conversion privilege understates the real interest cost.
 INTEREST
• Accounting for Interest Capitalization: Accounting for interest capitalization is also
disputed. Some analysts view interest as a period cost and not capitalizable. The lack of
clear guidelines leads to variations in practice.

• Impact on Net Income: Capitalized interest becomes part of an asset's cost and affects
expenses through depreciation and amortization. Assessing the impact of interest
capitalization on net income requires knowledge of the amount of capitalized interest
charged to income, which is not always disclosed.

• Fixed-Charge Coverage Ratio: Accurate computation of the fixed-charge coverage ratio

depends on knowing the amount of capitalized interest charged to income.

• Lack of Disclosure: Unfortunately, there is no requirement for disclosing the amounts of

capitalized interest, which can hinder financial analysis.
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