How Do You Value a Share of a Stock?

Financial professionals often estimate a company’s worth by analyzing its Earnings Per Share (EPS) and applying a multiple valuation method. Multiple valuation is widely used in the stock market because it combines profitability with how investors typically price similar companies.

Earnings Per Share (EPS)

Before we dive deeper into valuation multiples like the P/E ratio, it’s important to understand Earnings Per Share, or EPS. EPS measures a company’s profitability on a per-share basis and is a key component of the P/E ratio.

There are two types of EPS:

• Basic EPS: This is calculated by taking the net income and subtracting dividends on preferred stock, then dividing that by the weighted average number of common shares outstanding during the year.

$$
\text{Basic EPS} = \frac{\text{Net Income} – \text{Dividends on Preferred Stock}}{\text{Weighted Average Number of Common Shares Outstanding}}
$$

• Diluted EPS: This calculation takes into account potential dilution from options, warrants, and convertible securities. These are securities that could be converted into common shares in the future, increasing the total number of shares and potentially lowering the EPS.

P/E Ratio in Multiple Valuation

The Price-to-Earnings (P/E) ratio is one of the most common multiple valuation methods. It provides a quick way to value a company by comparing its stock price to its EPS.

$$
P/E = \frac{\text{Price per Share}}{EPS}
$$

For example:

• If a company’s Net Income per share is \$6.
• And financial analysts determine the appropriate P/E multiple for that company is 15.

You would multiply the two numbers to get the estimated share value:

$$
\text{Price per Share} = 6 \times 15 = 90
$$

This multiple valuation approach shows how stock prices are influenced not only by earnings but also by the market’s perception of the company’s future growth and stability.