The Relationship Between Basic Net Income & Earnings per Share
Original post by Geri Terzo of Demand Media
Net income is used to determine a company's basic earnings per share. Basic refers to the accounting standard that is used, which is a straight-forward formula that considers common stock. Net income and earnings per share are different ways of expressing profits. Publicly traded companies reveal profit results on a quarterly and annual basis and results are typically compared with market expectations.
Basic earnings per share are determined by a calculation. The equation includes deducting any preferred shareholder dividends from a company's net income and dividing the result by the number of shares outstanding. The result is the basic earnings per share, and it can also be referred to as bottom line growth. Net income and earnings are a reflection of how profitable a company was over a given period of time. Diluted earnings per share, another reporting standard, is a more complex way to assess earnings. This standard makes adjustments to include variables such as dividends and convertible shares.
Equity analysts forecast both the expected net income and earnings per share that a company is set to to report. I/B/E/S, which is a division of Thomson Reuters that makes earnings predictions, does not require its analysts to base estimates on a basic or diluted standard. Instead, I/B/E/S prefers that analysts follow the standard that the majority of financial analysts are using for estimates. By using similar items to create an estimate, analyst opinions may not be exactly the same but comparisons for earnings expectations become more relevant.
If a company misses its net income performance expectations, it has also fallen short on the earnings per share results. In addition to analysts, financial officers also establish some performance estimate and investors pay close attention. According to a 2011 article on the MSNBC website, technology provider NetApp Inc. suffered declines in its stock price after the company revealed it expected to fall short of analysts' second-quarter estimates for net income and earnings per share.
Companies and market participants use past net income and basic earnings per share results to determine if a company's performance has improved. Typical comparisons include measuring quarterly performance with the same period a year ago and also forming a year-over-year analysis. In 2011, Foot Locker's second-quarter net income results of $37 million were cheered in comparison to the previous year's profits of $6 million in the corresponding period, according to the "Wausau Daily Herald." The earnings per share results also showed dramatic improvement.
- Accounting Study: Earnings Per Share (EPS)
- Thomson Reuters: I/B/E/S
- Money-Zine.com; Analyzing Income Statements
- Alacra: Thomson Financial I/B/E/S
- MSNBC; NetApp Sinks As 1Q Revenue, 2Q Forecast Disappoint; August 2011
- "Wausau Daily Herald"; Foot Locker's 2Q Income Jumps; August 2011
About the Author
Geri Terzo is a business writer with over 15 years experience reporting on Wall Street. Her coverage ranges from institutional investing, including hedge funds and investment banking, to family topics and her career experience includes work for Fox Business, CNBC and "IDD Magazine." Terzo is a graduate of Campbell University, where she earned a B.A. in mass communication.
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