EPS Accounting Report: Development and Problems
Earnings per share is the portion of a company’s profit allocated to each outstanding share of common stock. The computation of earnings per share is income minus preferred stock dividends divided by weighted average number of shares of common stock outstanding at the end of the period. Earning per share is considered to be the single most important metric to determine a company’s profitability which is crucial to the decision making of potential investors and creditors. In other words, earnings per share helps people to have a better insight of different companies’ power to make money. The higher the earnings per share with all other factors equal, the higher each share would be worth. By evaluating earnings per share, investors and creditors can make their decision whether the company is worth investing or lending the money to. Although earnings per share is a very important factor to present a company’s financial status and a significant indicator to investor and creditor, its existence and presentation have been disputed throughout the U.S. history. Approximately a half century ago, accountants were not supposed to be associated with reporting of EPS amounts. In Accounting Research Bulletin (ARB) No. 43 (AICPA, 1961), the Committee on Accounting Procedure (CAP) stated that an undue attention was given to a single net income figure or earnings per share and regarded it as “undesirable”. However, Earnings per Share presentation has became very common during 1950s. In ARB No. 49, Earnings per Share (AICPA, l961), CAP restated its positions and suggested three guidelines to compute earnings per share. The three guidelines were: “1). . . the term earnings per share should be used to designate the amount applicable to each share of common stock or other residual security outstanding, 2) earnings per share, . . . should generally be stated in terms of the common stock position as it existed in the years to which the statistics relate, unless it is clear that the growth or decline of earnings will be more fairly presented, as for example, in the case of a stock split, by dividing prior years' earnings by the current equivalent of the number of shares then outstanding, and 3) in all cases in which there have been significant changes in stock during the period to which the computations relate, an appropriate explanation of the method used should accompany the presentation of earnings per share." In APB Opinion No. 9, Reporting the Results of Operations in 1966 (AICPA), the subject of EPS was first addressed. Instead of reporting a single EPS figure, APB strongly encouraged companies to provide EPS amounts for income before extraordinary items, extraordinary items (if any), and net income in the income statement. In further, APB announced that if there’s evidence of potential delusion which could occur due to convertibles, warrants and options, and other contingent share distributions, diluted EPS amounts should be included in the income statement representing what the earnings would be if the options were exercised. However, Opinion No. 9 did not give out a detailed guidance of how to compute EPS. After three years, APB did realize the importance of the computation and disclosure of EPS since people were considering EPS as one of the most important indicators for decision making. In 1969, they issued the APB Opinion No. 15 which was the first official pronouncement that required companies to report EPS figures in the income statement. Also, Opinion No.15 provided clear information on the computation of EPS on a consistent basis. It guides the current practice and provides a standard at that time. However, it was considered very complicated and controversial. There are two types of capital structures are identified based on the opinion, simple and complex. “A simple capital structure is one that consists of only common stock or includes no potential dilutive securities,...
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