Earnings Per Share calculation involving Share Split Arrangement



Share Split: Definition & Explanation

Share split transactions involves the division of issued shares of an entity into a greater number of shares without any further consideration from the shareholders. For example, a 2 for 1 share split would entitle a shareholder with 10 existing ordinary shares with nominal value of $10 each with 20 new shares having nominal value of $5 each. The shareholder would have the same net interest in the company of $100 but his interest would be represented by a different number of shares. Share split arrangements are usually undertaken by companies to improve the marketability of shares in the stock market.

Share Split Adjustment in EPS

Share split transactions are treated in the EPS calculation in the same manner as bonus shares, i.e. the weighted average shares are increased by the number of additional shares issued in the year of the share split transaction and as well as in any comparative prior periods presented as though the shares had been split from the beginning of the comparative prior period presented. View Example >

If no adjustment is made in the weighted average shares, earnings per share would appear to have significantly decreased in the year in which the share split occurs as compared to the EPS of prior periods even if the performance of the entity does not change. This would not reflect a fair assessment of the entity's performance since the EPS ratio will show a decline even though the company had received no consideration for the additional shares as in the case of shares issued for consideration.

Therefore, an adjustment is made to increase the number of shares resulting from the share split in the current period (i.e. the year in which share split occurs) and prior period comparative periods appearing in the current period financial statements. This facilitates the comparison of the entity's performance over a period of time as reflected in the EPS ratio.


Formulae

Following formulae demonstrate how share split adjustment is included in the Basic EPS calculation:

EPS for the year (X)

=Earnings attributable to ordinary share holders for the year
[Weighted Average Shares (excluding bonus) + Additional Shares]

EPS for the year (X-1)

=Earnings attributable to ordinary share holders for the year
[Weighted Average Shares (excluding bonus) + Additional Shares]

EPS for the year (X+1)

=Earnings attributable to ordinary share holders for the year
[Weighted Average Shares (excluding bonus) + Additional Shares]

Where:

Year (X)=Year in which share split occurs (current period)
Year (X-1)=Year preceding the period in which share split is carried out (prior period comparative)
Year (X+1)=Year subsequent to the period in which share split is carried out (subsequent period)
Weighted Average Shares=Number of shares at the start of the year
PLUS    Shares issued for consideration     x   (time apportionment)
MINUS   Shares redeemed during the year   x   (time apportionment)
Additional Shares=Number of additional shares arising from the share split transaction. Additional shares from the share split are incorporated in the calculation of EPS in full without any time apportionment so that the increase in number of shares in the current period, comparative prior periods and all subsequent periods is the same therefore resulting in EPS which is comparable over several accounting periods.

Example

ABC PLC, which has a year end of 31st December 2012, carried out a 3 for 2 share split arrangement on 30th June 2012.

Following information relates to ABC PLC:

Ordinary Shares as on 1st January 20114,000,000

Earnings attributable to ordinary shareholders:

2011   $6,000,000

2012   $6,000,000

Calculation of Earning Per Share for 2011 and 2012 for presentation in financial statements for the year ended 31st December 2012 would be as follows:

Step 1:Calculate the number of bonus shares
Number of shares prior to split4,000,000
Number of additional shares (4m x 3/2 - 4m)1,000,000
Step 2:Calculate Weighted Average Shares
2011   Shares at the start of the year4,000,000
Add: Additional shares (Step 1)2,000,000
Weighted Average Shares6,000,000
2012   Shares at the start of the year4,000,000
Add: Additional shares (Step 1)2,000,000
Weighted Average Shares6,000,000

Note that although additional shares from the share split were issued half way through 2012, they are included in the calculation of weighted average shares without time apportionment for both 2012 and 2011 (i.e. as if the additional shares had been issued before the start of the accounting periods).

Step 3:Calculate Earnings Per Share
2011 Earnings attributable to ordinary share holders$6,000,000
Weighted Average Shares (Step 2)6,000,000
Earnings Per Share ($ 6,000,000 / 6,000,000)$1
2012 Earnings attributable to ordinary share holders$6,000,000
Weighted Average Shares (Step 2)6,000,000
Earnings Per Share ($ 6,000,000 / 6,000,000)$1

Note that in spite of the share split transaction, the earnings per share for the two years has remained unchanged since there is no change in the company's earnings. The effect of additional shares arising from the share split arrangement is therefore eliminated by inflating the weighted average shares for both years by the number of additional shares.

The EPS calculated as above demonstrates that the performance of ABC PLC has stayed constant over the past two years. If no adjustment for the additional shares had been made, EPS for 2012 would have been lower than 2011 in spite of the fact that there is no difference in the earnings of the company and nor has ABC PLC received any consideration for the additional shares such as in the case of issue of share capital for cash which would have warranted a decrease in EPS. Ignoring the adjustment in EPS relating to the share split would therefore have shown an unfair reflection of the performance of ABC PLC.

Calculation of weighted average shares for subsequent periods will also incorporate the additional shares in a similar manner (i.e. added in full without time apportionment).