ACCOUNTING STANDARD – 20
EARNINGS PER SHARE
By :
CA Chandrashekhar
Shetty S
B.Com, PGDCA, PGDFM, DISA, ACS, ACWA, FCA

DISCUSSION ON :
- Why EPS ?
- For Whom EPS ?
- What is EPS ?
- How EPS ?
- When EPS ?
EPS – An Overview



Popular measure of the performance of a company
and a factor in the valuation of its shares.
It is the reward of an investor for making his
investment and it is the best measure of
performance of a firm.
Ordinary investors make their investment decision
based on EPS.

Objective of financial management to
maximize the EPS------ from the view point of both the investor
and investee
---maximization of value measure in terms
of market price of equity share
Effects Of EPS
EPS affects the following:
– Value of a Share (Price Earning Ratio)
Market Price = EPS * P/E ratio
– Valuation of the Business as a whole
– Expectations of the Investors
– Dividend Payout Ratio etc……
Legal Framework

Accounting Standard - 20 issued by ICAI
– Commenced on 1-4-2001
– Mandatory for Companies

Accounting Standard Interpretation – 12

International Accounting Standard – 33
Legal Framework


To provide for uniform computational methodology
AS – 20 was issued.
Its mandatory for– Enterprises whose equity shares or potential equity shares
are listed in India.
– Enterprises whose shares are not so listed and are willing
to disclose the EPS
– Requirement of Part IV to Schedule VI of the Companies
Act, 1956
– Applicable for Level I Enterprises.
– Level II and Level III Enterprises – No Diluted
EPS and Disclosure as per 48(ii)
ACCOUNTING STANDARDS
INTERPRETATION - 12
APPLICABILITY OF AS 20

Every company, which is required to give
information under Part IV of Schedule VI to
the Companies Act, 1956, should calculate
and disclose EPS in accordance with AS 20,
whether or not its equity shares or potential
equity shares are listed.
ACCOUNTING STANDARDS
INTERPRETATION - 12
APPLICABILITY OF AS 20

Basis For Conclusions
AS 20 does not mandate an enterprise, which has
neither equity shares nor potential equity shares
which are so listed, to calculate and disclose EPS,
but, if that enterprise discloses EPS for complying
with the requirement of any statute, it should
calculate and disclose EPS in accordance with AS
20
Areas of Concern :
1
Whether applicable for Banking and
insurance companies?
2. Disclosure in Part IV – only Basic or
Both Basic and Diluted?
Practical Issues FY 05-06
Banking
Sector
Vijaya Bank
EPS on the
face of P&L
No (But in
Notes On
A/C)
Balance Sheet No
Abstract (Part
IV)
ING VYSYA Syndicate
Bank
Yes
Yes
Yes
No
Practical Issues FY 05-06
Others
ITL
WIPRO
Separate Disclosure of
Extra-ordinary item
Yes
No
Part IV
Diluted EPS
Yes
No
Part IV – Segregation
of Extraordinary items
No
No
Objectives of AS 20


Prescribes principles for the
determination and presentation of
EPS.
The focus of this statement is on the
denominator of the EPS calculation.
Presentation-Para 8 and 9

An enterprise should present earnings per share for all periods

Presentation on the Face of P & L A/c.

Separately for each class of equity share that has a different
right to share in profit

presented.
Types of EPS Basic EPS
 Diluted EPS

A ) Whether disclosure is must when Profit is Negative?

B ) If yes, whether both Basic and Diluted EPS have to be presented?
Measurement
I. BASIC EARNINGS PER SHARE
A. Earnings – Basic = PAT – Pref. Div. incl. CDT
Points to Be Noted - Numerator
1.
Tax and impact of AS -22
2.
AS – 5 – Include Extraordinary items
3.
Preference Dividend –Non Cumulative – Deduct if
provided
-- Cumulative - Full Dividend
( only of current year)
4.
> one class of equity shares – apportion the profits as
per dividend rights
B. Per Share - Basic = Earnings / Weighted avg. No. Of Eq. shares
Points to Ponder - Denominator
1. Consider the weighted average no. of equity shares o/s. during the
period – time weighting factor - Refer Table I
2. AS- 14 : Transferee company
a. Purchase method – from the date of acquisition
b. Merger method – From the beginning of the reporting period
3. Partly paid shares - proportion to div rights – Refer Table II
4. Rights issue – consider the bonus element – Refer – Table III
5. Bonus issue or share split - Increase in shares without increase in
resources - Computation is from the beginning of the earliest period
reported – Refer Table IV
Table I - Weighted Average Number Of Shares
(Accounting year 01-01-2001 to 31-12-2001)
NO of
Shares
Issued
No. of
Shares
Bought Back
No. of
Shares
Outstanding
1st January,
2001
Balance at
beginning of
year
1800
-
1800
31st May,
2001
Issue of
shares for
cash
600
-
2400
1st Nov,
2001
Buy Back of
Shares
-
300
2100
31st Dec,
2001
Balance at
end of year
2400
300
2100

Computation of Weighted Average No :
(1800*5/12) + (2400*5/12) +(2100*2/12) = 2100
shares
The weighted average number of shares can
alternatively be computed as follows :
(1800*12/12) + (600*7/12) – (300*2/12) = 2100
shares
Table II – Partly paid shares
(Accounting year 01-01-2001 to 31-12-2001)
No. of shares
issued
Nominal value
of shares
Amount paid
1st Jan, 2001
Balance at
beginning of
year
1800
Rs 10
Rs 10
31st October,
2001
Issue of
shares
600
Rs 10
Rs 5
Assuming that partly paid shares are entitled to participate in the
dividend to the extent of amount paid, number of partly paid equity
shares would be taken as 300 for the purpose of calculation of EPS.
Computation of Weighted Average would be as follows :
(1800*12/12) + (300*2/12) = 1850 shares
Table III – Right Issue
(Accounting year 01-01-2000 to 31-12-2000)
Net Profit
Year 20*0 : Rs 11,00,000
Year 20*1 : Rs 15,00,000
No. of shares outstanding prior to
rights issue
5,00,000 shares
Rights issue
One new share for each five
outstanding (i.e. 1,00,000 new
shares)
Rights issue price : Rs 15.00
Fair value of one equity share
immediately prior to exercise of
rights on 1st March 2001
Rs 21.00
Computation of theoretical ex-rights fair value
per share
Fair value of all outstanding shares immediately prior to exercise
of rights + total amount received from exercise
Number of shares outstanding prior to exercise + number of
shares issued in the exercise
(Rs 21 * 5,00,000 shares) + (Rs 15 * 1,00,000 shares) /
5,00,000 + 1,00,000 shares
Theoretical ex-rights fair value per share = Rs 20.00
Computation of Adjustment factor
Rs 21.00 (Fair value per share prior to exercise of rights) / Rs
20.00(Theoretical ex-rights value per share) = 1.05

Computation of EPS
Year 2000
Year 2001
EPS for the year 2000 Rs 2.20
as originally reported :
Rs 11,00,000/5,00,000
shares
EPS for the year 2000
restated for rights
issue :
Rs 11,00,000 /
(5,00,000 shares *
1.05)
EPS for the year 2001
including effects of
rights issue
Rs 15,00,000 /
(5,00,000 * 1.05 *
2/12) + (6,00,000 *
10/12)
Rs 2.10
Rs 2.55
Table IV – Bonus Issue
(Accounting year 01-01-2000 to 31-12-2000)
Net profit for the year 2000
Rs 18,00,000
Net profit for the year 2001
Rs 60,00,000
No. of equity shares
outstanding until 30th
September 2001
20,00,000
Bonus issue 1st Oct 2001
2 equity shares for each equity share
outstanding at 30th Sept, 20*1
20,00,000*2=40,00,000
Earnings per share for the year
2001
60,00,000/(20,00,000 + 40,00,000) =
Rs 1.00
Adjusted EPS for the year 2000
18,00,000/(20,00,000+40,00,000) =
Rs 0.3
Since the Bonus issue is an issue without consideration, the issue is
treated as if it had occurred prior to the beginning of the year 2000, the
earliest period reported.
Table V - Determining the Order in Which to Include
Dilutive Securities in the Computing of Weighted Average
Number Of Shares
Earnings, i.e., Net profit
attributable to equity shareholders
Rs 1,00,00,000
No. of equity shares outstanding
20,00,000
Average fair value of one equity
share during the year
Rs 75.00
Potential Equity Shares
Options
1,00,000 with exercise price of Rs
60
Convertible Preference shares
8,00,000 shares entitled to a
cumulative dividend of Rs 8 per
sahre. Each preference share is
convertible into 2 equity shares.
10%
Attributable tax, e.g., corporate
dividend tax
12% Convertible Debentures of Rs
100 each
Nominal amount Rs 10,00,00,000.
Each debenture is convertible into
4 equity shares.
Tax rate
30%
Increase in Earnings Attributable to Equity
Shareholders on Conversion of Potential Equity
Shares
Increase in
Earnings
Increase in no. Earnings per
of Equity
Incremental
Shares
share
Options
Increase in
earnings
No. of
incremental
shares issued
for no
consideration{1.
00,000*(7560)/75}
Nil
20,000
Nil
Convertible
Preference
shares
Increase in net
profit
attributable to
equity
shareholders as
adjusted by
attributable tax
[Rs
8*8,00,000)+10
%(8*8,00,000)]
No. of
incremental
shares{2*8,00,0
00)]
Rs 70,40,000
16,00,000
Rs 4.40
12%
Convertible
Debentures
Increase in net
profit {Rs
10,00,00,000*0.
12*( 1 – 0.30)}
No. of
incremental
shares{10,00,00
0*4}
Rs 84,00,000
40,00,000
Rs 2.10
It may be noted from the above that options are most dilutive as their earnings per
Incremental shares is nil. Hence, for the purpose of computation of diluted EPS, options
will be considered first. 12% convertible debentures being second most dilutive will be
considered next and thereafter convertible preference shares will be considered (see para
42)
Computation of Diluted EPS
As reported
Net Profit
Attributable
(Rs)
No. of Equity Net profit
attributable
shares
1,00,000
20,00,000
Options
12%
Convertible
Debentures
Convertible
Pref shares
per share (Rs)
5.00
20,000
1,00,00,000
20,20,000
84,00,000
40,00,000
1,84,00,000
60,20,000
70,40,000
16,00,000
2,54,40,000
76,20,000
4.95
Dilutive
3.06
Dilutive
3.34
Ati-Dilutive
Since diluted EPS is increased when taking the convertible pref shares in A/C (from
Rs 3.06 to Rs 3.34), the convertible pref shares are anti-dilutive and are ignored in the
calculation of diluted EPS. Therefore, diluted EPS is Rs 3.06.
II. DILUTED EARNINGS PER SHARE

A. Earnings – Diluted
Points to Ponder
1.
Nr and Dr. – adjusted for effects of dilutive potential
equity shares.
- Potential equity share is a financial instrument or other contract
that entitles, or may entitle, its holder to equity shares
-Potential equity shares should be treated as dilutive
when, and only when, their conversion to equity shares
would decrease net profit per share from continuing
ordinary operations (PARA 39)
--Ignore Anti-dilutive potential equity shares`
Net Profit for the period attributable to
equity shares
- increased by dividends and tax
- increased by interest subject to
tax
- any other item affecting profits

B. Per Share – Diluted
Dilutive potential equity shares should be deemed
to have been converted into equity shares at the
beginning of the period or, if issued later, the date
of the issue of the potential equity shares.
-Share application money or advance share
application money is to be treated in same
manner as dilutive potential equity shares.








Steps : Para 35 to 37
1. Assume the exercise of dilutuve securities e.g. ESOP
2. Determine the fair value of share( e.g. avg. of last 6
months’ weekly closing prices)
3. Determine the exercise price
4. Shares issued for no consideration = Step 2 - Step 3
5. Dilutive shares only to the extent of Step No. 4 ( Refer
Table V)
6. Sequence – Most dilutive to least dilutive
Most Dilutive = Earnings per Incremental Share is least
Free shares considered


A. Right and Buy back--- Both for
Basic and Diluted
B. Options -- Only for Diluted (
Potential shares)
Factors Affecting EPS

Bonus issues, stock-splits and reverse stocksplits (consolidation of shares) change the
number of outstanding shares without
changing the resources available to the firm.
Therefore, companies adjust the number of
equity shares outstanding for those periods
for bonus issues, stock-splits and reverse
stock-splits while calculating the EPS.
RESTATEMENT



If the shares outstanding increases as a result of a
bonus issue or decreases as a result of basic and
diluted earnings per share should be adjusted for
all the periods presented.
An enterprise does not restate diluted earnings
per share of any prior period presented for
changes in the assumptions used or for the
conversion of potential equity shares into equity
shares outstanding.
Normally, EPS is not adjusted for transaction
occurring after the balance sheet date – no effect
on capital used.
Example



A firm XYZ whose net profit attributable to equity
share holders for 2005 was Rs 10,00,000 and the
number of outstanding shares 50,000. The EPS for
2005 will be 20.
In the year 2006 if the profit is 15,00,000 and
company issues 1:1 bonus.
In the financial statement of 2006 the EPS for 2005
would be readjusted to Rs 10
(Rs10,00,000/1,00,000) to ensure comparability,
even though it was reported at Rs 20 in financial
statements for the year 2005.
DISCLOSURE - Para 48 to
51


48 (i)Where the statement of profit or
loss includes extraordinary items, the
enterprise should disclose basic and
diluted EPS computed on the basis of
earnings excluding extraordinary
items
--- Prior period items ?
DISCLOSURE

48( ii) (a)the amounts used as
numerators, and a reconciliation of
those amounts to net profits or loss;
(b) the weighted average number of
equity shares used as the
denominator;
© the nominal value of shares along
with EPS figures.
AS – 20 and other AS Interconnection






As - 1
AS – 2
AS – 4
AS – 5
AS – 6
AS – 7







AS
AS
AS
AS
AS
AS
AS
–9
– 10
-11
– 12
– 13
– 14
– 15
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


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
AS
AS
AS
AS
AS
AS
AS
–
–
–
–
–
–
–
19
21
22
24
25
28
29
Other Matters :
IAS – 33
January 1996
February 1997
1 January 1999
18 December
Exposure Draft -- Earnings Per Share
IAS 33 Share
Earnings Per
Effective Date of IAS 33 (1997)
Revised version of IAS 33 issued by the IASB
2003
1 January 2005
Effective date of IAS 33 (Revised 2003)
Objective of IAS 33

to improve performance comparisons
between different enterprises in the same
period and between different accounting
periods for the same enterprise.
Scope

IAS 33 applies to entities whose securities
are publicly traded or that are in the process
of issuing securities to the public. [IAS 33.2]
Other entities that choose to present EPS
information must also comply with IAS 33.
[IAS 33.3]
Shortcomings of EPS
Does not consider the opportunity cost
of capital and can be manipulated by
short-term actions.

Let us take an example. Assume that a company
has 20,000 outstanding shares and earnings
available to shareholders is Rs 200,000. The EPS is
(Rs 2,00,000/ 20,000), or Rs 10. Assume that the
company borrows Rs 10,00,000 at an interest rate
of 8 per cent to buy back 10,000 shares. Assuming
an income tax rate of 40 per cent, the earnings
available to shareholders after the shares are
bought back will be [Rs 2,00,000 - (1.00 - 0.40) x
Rs. 80,000] or 1.52,000. Accordingly, EPS will be
reported at [Rs 1,52,000/10,000] or Rs 15.20.
Shortcomings of EPS



Indeed, financial economics tells us that (in the first approximation)
these two effects cancel out exactly and the return on invested
capital (ROIC) and the cost of capital do not change with a change in
the capital structure. Accordingly, economic profit (often called EVA)
too does not change with the change in the capital structure. Yet,
the example above shows that the EPS can increase in such
circumstances.
Therefore, it is not correct to conclude that the increase in EPS
always reflects better performance by the company.
For example, if a company finances a new project totally by
debt, EPS will increase if the project returns are higher than
the after-tax cost of debt, even if the project earns a return
lower than the cost of capital (WACC) of the company.
Although the EPS increases, such a project destroys value.
Shortcomings of EPS


Another important shortcoming of EPS
is that it does not relate EPS with the
invested capital. For example, two
companies may have same EPS, even
if one company has lower invested
capital as compared to the other.
Ignores the Scale and size of
operations
Problems with EPS
Reporting Standards


Complex Computation mechanism of
Diluted EPS
Basic EPS is subject to replacement on
the income statement by two
hypothetical EPS numbers.

The test used to identify common
stock equivalent securities is among
the most controversial of those rules


Inability to pinpoint the meaning of
common stock equivalency
Changing relationships between the
terms of particular securities and
prevailing market conditions are not
considered in the computational rules
for EPS.


Do these complicated EPS disclosures assist
investors and creditors in decision making? The
answer is unclear. Millar, et. al., report in the
September-October, 1987 Financial Analysts journal
that basic EPS and cash flow per share numbers are
more closely related to stock returns than either
primary or fully diluted EPS. Additional research is
needed to ascertain the relative usefulness of basic,
primary and fully diluted EPS.
In the mean time, accountants and auditors are
saddled with complicated rules of questionable
usefulness.
WRAP UP

Adhere to AS – 20

Be practical and objective oriented

Make no little plans ; they have
no magic to stir men’s blood –
Daniel Hudson Burnham
THANK
YOU
ONE AND ALL