How to Calculate an Initial Dilution in Earnings Per Share of New Stock That Is Issued
Original post by Ryan Menezes of Demand Media
When a company issues new shares, it raises equity from the revenue that the stock sale brings. The company may sell the new shares at a price equal to the earnings per share presale. If so, the company will gain enough equity to maintain the current earnings per share. Stock dilution will occur because each share will represent a smaller fraction of the company. But if the company sells stock at lower prices, earnings per share will drop, hurting longstanding shareholders' portfolios.
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Step 1
Multiply the number of new shares that the company issues by the price at which it sells them. For example, if a company with $200,000 of equity and 800 outstanding shares issues 200 new shares at $150 each, then calculate: 200 × $150 = $30,000.
Step 2
Add the revenue from the sale to the company's existing equity: $30,000 + $200,000 = $230,000.
Step 3
Add the number of original shares to the number of new shares that the company issues: 800 + 200 = 1,000.
Step 4
Divide the company's total equity by the new number of outstanding shares: $230,000 ÷ 1,000 = $230. This is the diluted value for earnings per share after the new stock issue.
Resources
- "The Accounting Review"; The Economic Dilution of Employee Stock Options...; John E Core et al; July 2002
- University of Iowa: Earnings Per Share; Teresa Gordon
References
- "Practical Financial Management"; William Lasher; 2010
- "Financial and Managerial Accounting"; Belverd E. Needles et. al.; 2010
About the Author
Ryan Menezes is a professional writer and blogger. He has a Bachelor of Science in journalism from Boston University and has written for the American Civil Liberties Union, the marketing firm InSegment and the project management service Assembla. He is also a member of Mensa and the American Parliamentary Debate Association.
Photo Credits
- Comstock/Comstock/Getty Images
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