Earnings per share (EPS) growth: What really drives stock prices
For Indian investors in US stocks, understanding EPS growth is critical to long-term returns. Research shows EPS growth accounts for approximately 66% of stock returns over time. This dwarfs dividends at 20% and valuation changes at 14%. The S&P 500's 123% gain since 2019 has been driven more than 75% by fundamentals, not multiple expansion.
The current environment demands attention.
Understanding fundamental analysis tools for Indian investors provides the foundation for evaluating these metrics effectively.
With the S&P 500 trading at 22x forward earnings versus a 10-year average of 18.2x, understanding what truly drives EPS growth separates successful investors from the crowd.
The mathematics of EPS that every investor must master
Basic EPS measures a company's profitability on a per-share basis. The formula is straightforward: (Net Income – Preferred Dividends) ÷ Weighted Average Shares Outstanding. If Company ABC earns $2 million, pays $250,000 in preferred dividends, and has 11 million weighted average shares outstanding, its Basic EPS equals $0.159.
Diluted EPS matters more for investors. It assumes all potentially convertible securities get exercised. Stock options, RSUs, convertible bonds, and warrants all count. This represents the worst-case scenario for existing shareholders. The difference between basic and diluted EPS reveals hidden dilution risk in technology companies.
You can find EPS data in SEC filings. The 10-K annual and 10-Q quarterly reports present both basic and diluted EPS at the bottom of the income statement. Notes to financial statements contain detailed reconciliations explaining how the company calculated both figures.
The distinction between GAAP and Non-GAAP EPS is critical. GAAP EPS follows strict accounting standards. Non-GAAP or adjusted EPS excludes items management deems non-recurring. Today, 97% of S&P 500 companies report Non-GAAP earnings. On average, Non-GAAP EPS runs 25-30% higher than GAAP EPS. Always examine the GAAP figure first.
EPS is one of the essential financial ratios every investor should understand to build a complete valuation picture.
Why diluted EPS reveals the accurate shareholder picture
For stock options, warrants, and RSUs, analysts use the Treasury Stock Method. This approach assumes in-the-money options are exercised. The proceeds get used to repurchase shares at the current market price. Consider 10,000 options with a $25 strike price when shares trade at $50. Exercise produces $250,000 in proceeds. This could be used to repurchase 5,000 shares at market price. Net dilution equals 5,000 shares.
For convertible bonds and preferred stock, the If-Converted Method applies. This assumes conversion occurs at the beginning of the period. It adds converted shares to the denominator and adjusts the numerator for the after-tax elimination of interest expense.
Anti-dilutive securities get excluded from diluted EPS calculations. If including a security would increase EPS rather than decrease it, GAAP requires exclusion. The critical rule states that diluted EPS must always be less than or equal to basic EPS.
Stock dilution costs shareholders more than they realise
Technology companies exemplify the dilution problem. TDM Growth Partners' 2024 benchmarking study of 104 tech companies found a median annual dilution of 2%. This spiked to 3% during 2022's downturn. At a 3% yearly dilution rate, a company's market capitalisation must grow by 16% over five years just to maintain the same stock price.
Stock-based compensation has exploded across Corporate America. Morgan Stanley data shows SBC as a percentage of sales rose from 0.2% in 2006 to 1.3% in 2022. The Russell 3000 collectively paid $270 billion in stock compensation in 2022 alone. Among emerging cloud companies, SBC averages a startling 21% of revenue.
The investment implications are stark. Companies with the highest SBCs that delivered dilution exceeding 3% annually produced negative 0.9% annual returns. The lowest diluters returned positive 16.9% annually. Calculate diluted shares as a percentage of basic shares. A widening gap signals increasing shareholder dilution, regardless of reported EPS.
Share buybacks artificially boost EPS without improving business fundamentals.ls
The mechanics are arithmetic, not economic. When a company repurchases shares, the EPS denominator shrinks. A company earning $1 million across 1 million shares reports $1.00 EPS. After buying back 10% of shares, EPS rises to $1.11. This represents an 11% increase with zero improvement in actual business performance.
S&P 500 buybacks hit record levels in 2024-2025. Full-year 2024 saw $942.5 billion in repurchases, up 18.5% from 2023. The twelve months ending September 2025 crossed $1 trillion for the first time. Information Technology leads at approximately 27% of total buybacks.
Apple dominates buyback activity. The company spent $104 billion in 2024 alone and announced a $110 billion programme. Since 2012, Apple has repurchased more than $700 billion in its own stock. Share count reduced from 26.2 billion to approximately 15.3 billion. This 41% reduction explains how Apple's EPS grows 4-6 percentage points faster than net income annually.
The uncomfortable truth about buyback-driven EPS growth
McKinsey research delivers a sobering finding. Approximately 36% of large companies with above-average EPS growth underperformed on total shareholder returns over ten years. After controlling for economic profit growth, there is no statistically significant relationship between buyback intensity and shareholder returns.
Buybacks create value only under specific conditions. The stock must trade below intrinsic value. Funding must come from excess cash, not debt. No better reinvestment opportunities should exist. Buying shares at 35-40x earnings, even for high-ROE companies, destroys value compared to reinvesting capital at 18-20% returns.
Meta Platforms illustrates the sterilisation problem. Despite spending $148 billion on buybacks over eight years, Meta's net share reduction totalled only 3.9%. The reason is that 82% of buybacks went to offset stock-based compensation dilution. In 2024, 100% of Meta's repurchases merely sterilised SBC. This provided zero net benefit to shareholders. Apple allocates approximately 15% of free cash flow to SBC sterilisation, resulting in a genuine 39% share reduction.
How to distinguish high-quality EPS from accounting illusions
The Quality of Earnings Ratio provides a first-line test. Operating Cash Flow divided by Net Income above 1.0 indicates high-quality earnings. The company generates more cash than reported profits. Consistently below 1.0 signals trouble. Earnings derive from accruals rather than actual cash. Research found cash-flow discrepancies in virtually all financial frauds.
Cash EPS offers another lens. Operating Cash Flow divided by Diluted Shares tracks actual cash generation. This metric resists accounting manipulation. When Cash EPS significantly trails Reported EPS for multiple periods, investigate immediately.
The relationship between revenue and EPS growth reveals sustainability. EPS growing substantially faster than revenue without margin expansion suggests financial engineering. Check whether the gap comes from buybacks, one-time gains, or accounting changes.
Critical red flags include rising accounts receivable outpacing revenue and declining operating cash flow. At the same time, EPS growth is driven by recurring one-time charges, stock-based compensation exceeding 25% of revenue, and frequent accounting policy changes.
Real examples reveal the spectrum of earnings quality.
High-quality EPS companies demonstrate consistent alignment between earnings and cash flow. Apple maintained a consistent 10-year revenue and EPS growth, with strong cash flow backing. Microsoft improved operating margins from 15% to over 40% through its cloud transition. Both companies use buybacks to supplement organic growth rather than substitute for it.
The WorldCom fraud, which cost $11 billion, offers a textbook case of manipulation. The company reclassified operating expenses as capital expenditures. This transformed a $395 million loss into a $130 million reported profit. Red flags were present. Revenue did not match cash flow. Unusual accounting entries lacked documentation. The outcome was the largest bankruptcy at that time, with executives convicted.
Analyst estimates and the earnings surprise game
Wall Street analysts forecast EPS using detailed financial models projecting revenues, costs, and margins. Individual estimates are aggregated by providers such as FactSet and Bloomberg to form consensus estimates. The S&P 500 has beaten the average return rate of 75-78% over five and ten years, respectively. Q2 2025 saw an 82% beat rate.
However, beating estimates is expected and largely priced in. The magnitude matters more. The five-year average surprise is positive 7.7%. Larger surprises drive larger stock moves. On average, positive EPS surprises generate positive 0.9% two-day returns. Negative surprises trigger negative 2.8% declines.
Whisper numbers represent analysts' accurate expectations versus published estimates. They predict actual earnings 70% more accurately than the official consensus. Stocks beating whisper numbers gain an average positive 1.8% and rise 60% of the time.
The Magnificent Seven dominate earnings growth in 2025-2026
NVIDIA's EPS explosion defines the AI era. From $0.17 per share in fiscal 2023, NVIDIA surged to $2.94-$2.97 in fiscal 2025. This represents a 147% gain following the prior year's 600% growth. Q3 fiscal 2026 delivered $1.30-$1.31 EPS, up 65.8% year-over-year. Data centre revenue now represents approximately 90% of total revenue.
Apple's fiscal 2025 posted $7.46 EPS, up 18.2% year-over-year. The buyback machine continues with $90.7 billion repurchased in 2025. Shares outstanding dropped from 17.1 billion in 2020 to 14.77 billion. This 14% reduction provides a consistent EPS tailwind.
Microsoft achieved $13.64 EPS for fiscal 2025, up 15.6% year-over-year. Cloud revenue reached $46.7 billion in Q4, up 27%. Azure annual revenue hit $75 billion, growing 34%.
Meta Platforms recovered spectacularly from its 2022 crash of $8.59 EPS to $23.86-$24.61 in 2024. The Year of Efficiency cost cuts restored profitability. However, the 2026 CapEx guidance of $85-105 billion for AI infrastructure raises questions about the sustainability of future margins.
Industry benchmarks define what good EPS growth actually means
The S&P 500's median 10-year EPS growth since 1990 is approximately 6.0%. Post-Global Financial Crisis growth averaged only 2.7%. Recovery years regularly deliver 15-50%+ rebounds. Goldman Sachs forecasts 6% annualised EPS growth for 2025-2035.
By sector, benchmarks differ substantially. Information Technology expects 17-19% growth in 2025 with a reasonable threshold of 15%+. Communication Services expects 35% growth, with a threshold of 12%+. Consumer Discretionary expects 10% with an 8%+ threshold. Financials expect 8% with a 7%+ threshold. Healthcare expects single-digitgrowth witha 6%+ threshold.
The PEG ratio offers a growth-adjusted valuation lens. P/E divided by EPS growth rate below 1.0 traditionally signals undervaluation. Peter Lynch called a PEG of 1.0 fair value. Current sector PEGs range from 0.12 for Broadcasting to 59.85 for Metal Fabrication. Among major tech companies, Meta trades at approximately 0.4x PEG, Alphabet at 0.6x, and NVIDIA at 1.1x.
When EPS growth fails to translate into stock returns
The short-term correlation between EPS and stock prices is essentially zero, with a correlation of 0.2 from 1904 to 2020. In any given quarter, multiple factors overwhelm earnings fundamentals. In the long term, however, the relationship becomes decisive.
Multiple compressions can overwhelm strong earnings. Netflix traded at the same price in late 2022 as in Q2 2020 despite years of earnings growth. Extreme P/E compression from 40x+ to under 20x eliminated shareholder gains. Throughout 2022, many technology stocks reported solid earnings but fell 30-50% as rising interest rates compressed growth multiples.
The market rewards EPS growth when growth accelerates, ROIC is stable or improving, cash flow validates reported earnings, analyst estimates are being upgraded, and interest rates remain accommodative.
EPS growth remains the dominant driver of long-term equity returns. However, quality and sustainability matter more than headline numbers. The current US market offers above-average projected EPS growth of 12-15% for 2025-2026 at premium valuations of 22x forward P/E.
For Indian investors seeking US exposure, the key differentiators are distinguishing organic EPS growth from buyback-driven arithmetic, identifying companies where cash flow validates reported earnings, recognising when elevated valuations leave no margin for error, and understanding that even strong EPS growth cannot guarantee returns when multiples contract. The disciplined investor focuses on what they can analyse rather than what they cannot predict.
Disclaimer: The views and recommendations made above are those of individual analysts or brokerage companies, and not of Winvesta. We advise investors to check with certified experts before making any investment decisions.
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For Indian investors in US stocks, understanding EPS growth is critical to long-term returns. Research shows EPS growth accounts for approximately 66% of stock returns over time. This dwarfs dividends at 20% and valuation changes at 14%. The S&P 500's 123% gain since 2019 has been driven more than 75% by fundamentals, not multiple expansion.
The current environment demands attention.
Understanding fundamental analysis tools for Indian investors provides the foundation for evaluating these metrics effectively.
With the S&P 500 trading at 22x forward earnings versus a 10-year average of 18.2x, understanding what truly drives EPS growth separates successful investors from the crowd.
The mathematics of EPS that every investor must master
Basic EPS measures a company's profitability on a per-share basis. The formula is straightforward: (Net Income – Preferred Dividends) ÷ Weighted Average Shares Outstanding. If Company ABC earns $2 million, pays $250,000 in preferred dividends, and has 11 million weighted average shares outstanding, its Basic EPS equals $0.159.
Diluted EPS matters more for investors. It assumes all potentially convertible securities get exercised. Stock options, RSUs, convertible bonds, and warrants all count. This represents the worst-case scenario for existing shareholders. The difference between basic and diluted EPS reveals hidden dilution risk in technology companies.
You can find EPS data in SEC filings. The 10-K annual and 10-Q quarterly reports present both basic and diluted EPS at the bottom of the income statement. Notes to financial statements contain detailed reconciliations explaining how the company calculated both figures.
The distinction between GAAP and Non-GAAP EPS is critical. GAAP EPS follows strict accounting standards. Non-GAAP or adjusted EPS excludes items management deems non-recurring. Today, 97% of S&P 500 companies report Non-GAAP earnings. On average, Non-GAAP EPS runs 25-30% higher than GAAP EPS. Always examine the GAAP figure first.
EPS is one of the essential financial ratios every investor should understand to build a complete valuation picture.
Why diluted EPS reveals the accurate shareholder picture
For stock options, warrants, and RSUs, analysts use the Treasury Stock Method. This approach assumes in-the-money options are exercised. The proceeds get used to repurchase shares at the current market price. Consider 10,000 options with a $25 strike price when shares trade at $50. Exercise produces $250,000 in proceeds. This could be used to repurchase 5,000 shares at market price. Net dilution equals 5,000 shares.
For convertible bonds and preferred stock, the If-Converted Method applies. This assumes conversion occurs at the beginning of the period. It adds converted shares to the denominator and adjusts the numerator for the after-tax elimination of interest expense.
Anti-dilutive securities get excluded from diluted EPS calculations. If including a security would increase EPS rather than decrease it, GAAP requires exclusion. The critical rule states that diluted EPS must always be less than or equal to basic EPS.
Stock dilution costs shareholders more than they realise
Technology companies exemplify the dilution problem. TDM Growth Partners' 2024 benchmarking study of 104 tech companies found a median annual dilution of 2%. This spiked to 3% during 2022's downturn. At a 3% yearly dilution rate, a company's market capitalisation must grow by 16% over five years just to maintain the same stock price.
Stock-based compensation has exploded across Corporate America. Morgan Stanley data shows SBC as a percentage of sales rose from 0.2% in 2006 to 1.3% in 2022. The Russell 3000 collectively paid $270 billion in stock compensation in 2022 alone. Among emerging cloud companies, SBC averages a startling 21% of revenue.
The investment implications are stark. Companies with the highest SBCs that delivered dilution exceeding 3% annually produced negative 0.9% annual returns. The lowest diluters returned positive 16.9% annually. Calculate diluted shares as a percentage of basic shares. A widening gap signals increasing shareholder dilution, regardless of reported EPS.
Share buybacks artificially boost EPS without improving business fundamentals.ls
The mechanics are arithmetic, not economic. When a company repurchases shares, the EPS denominator shrinks. A company earning $1 million across 1 million shares reports $1.00 EPS. After buying back 10% of shares, EPS rises to $1.11. This represents an 11% increase with zero improvement in actual business performance.
S&P 500 buybacks hit record levels in 2024-2025. Full-year 2024 saw $942.5 billion in repurchases, up 18.5% from 2023. The twelve months ending September 2025 crossed $1 trillion for the first time. Information Technology leads at approximately 27% of total buybacks.
Apple dominates buyback activity. The company spent $104 billion in 2024 alone and announced a $110 billion programme. Since 2012, Apple has repurchased more than $700 billion in its own stock. Share count reduced from 26.2 billion to approximately 15.3 billion. This 41% reduction explains how Apple's EPS grows 4-6 percentage points faster than net income annually.
The uncomfortable truth about buyback-driven EPS growth
McKinsey research delivers a sobering finding. Approximately 36% of large companies with above-average EPS growth underperformed on total shareholder returns over ten years. After controlling for economic profit growth, there is no statistically significant relationship between buyback intensity and shareholder returns.
Buybacks create value only under specific conditions. The stock must trade below intrinsic value. Funding must come from excess cash, not debt. No better reinvestment opportunities should exist. Buying shares at 35-40x earnings, even for high-ROE companies, destroys value compared to reinvesting capital at 18-20% returns.
Meta Platforms illustrates the sterilisation problem. Despite spending $148 billion on buybacks over eight years, Meta's net share reduction totalled only 3.9%. The reason is that 82% of buybacks went to offset stock-based compensation dilution. In 2024, 100% of Meta's repurchases merely sterilised SBC. This provided zero net benefit to shareholders. Apple allocates approximately 15% of free cash flow to SBC sterilisation, resulting in a genuine 39% share reduction.
How to distinguish high-quality EPS from accounting illusions
The Quality of Earnings Ratio provides a first-line test. Operating Cash Flow divided by Net Income above 1.0 indicates high-quality earnings. The company generates more cash than reported profits. Consistently below 1.0 signals trouble. Earnings derive from accruals rather than actual cash. Research found cash-flow discrepancies in virtually all financial frauds.
Cash EPS offers another lens. Operating Cash Flow divided by Diluted Shares tracks actual cash generation. This metric resists accounting manipulation. When Cash EPS significantly trails Reported EPS for multiple periods, investigate immediately.
The relationship between revenue and EPS growth reveals sustainability. EPS growing substantially faster than revenue without margin expansion suggests financial engineering. Check whether the gap comes from buybacks, one-time gains, or accounting changes.
Critical red flags include rising accounts receivable outpacing revenue and declining operating cash flow. At the same time, EPS growth is driven by recurring one-time charges, stock-based compensation exceeding 25% of revenue, and frequent accounting policy changes.
Real examples reveal the spectrum of earnings quality.
High-quality EPS companies demonstrate consistent alignment between earnings and cash flow. Apple maintained a consistent 10-year revenue and EPS growth, with strong cash flow backing. Microsoft improved operating margins from 15% to over 40% through its cloud transition. Both companies use buybacks to supplement organic growth rather than substitute for it.
The WorldCom fraud, which cost $11 billion, offers a textbook case of manipulation. The company reclassified operating expenses as capital expenditures. This transformed a $395 million loss into a $130 million reported profit. Red flags were present. Revenue did not match cash flow. Unusual accounting entries lacked documentation. The outcome was the largest bankruptcy at that time, with executives convicted.
Analyst estimates and the earnings surprise game
Wall Street analysts forecast EPS using detailed financial models projecting revenues, costs, and margins. Individual estimates are aggregated by providers such as FactSet and Bloomberg to form consensus estimates. The S&P 500 has beaten the average return rate of 75-78% over five and ten years, respectively. Q2 2025 saw an 82% beat rate.
However, beating estimates is expected and largely priced in. The magnitude matters more. The five-year average surprise is positive 7.7%. Larger surprises drive larger stock moves. On average, positive EPS surprises generate positive 0.9% two-day returns. Negative surprises trigger negative 2.8% declines.
Whisper numbers represent analysts' accurate expectations versus published estimates. They predict actual earnings 70% more accurately than the official consensus. Stocks beating whisper numbers gain an average positive 1.8% and rise 60% of the time.
The Magnificent Seven dominate earnings growth in 2025-2026
NVIDIA's EPS explosion defines the AI era. From $0.17 per share in fiscal 2023, NVIDIA surged to $2.94-$2.97 in fiscal 2025. This represents a 147% gain following the prior year's 600% growth. Q3 fiscal 2026 delivered $1.30-$1.31 EPS, up 65.8% year-over-year. Data centre revenue now represents approximately 90% of total revenue.
Apple's fiscal 2025 posted $7.46 EPS, up 18.2% year-over-year. The buyback machine continues with $90.7 billion repurchased in 2025. Shares outstanding dropped from 17.1 billion in 2020 to 14.77 billion. This 14% reduction provides a consistent EPS tailwind.
Microsoft achieved $13.64 EPS for fiscal 2025, up 15.6% year-over-year. Cloud revenue reached $46.7 billion in Q4, up 27%. Azure annual revenue hit $75 billion, growing 34%.
Meta Platforms recovered spectacularly from its 2022 crash of $8.59 EPS to $23.86-$24.61 in 2024. The Year of Efficiency cost cuts restored profitability. However, the 2026 CapEx guidance of $85-105 billion for AI infrastructure raises questions about the sustainability of future margins.
Industry benchmarks define what good EPS growth actually means
The S&P 500's median 10-year EPS growth since 1990 is approximately 6.0%. Post-Global Financial Crisis growth averaged only 2.7%. Recovery years regularly deliver 15-50%+ rebounds. Goldman Sachs forecasts 6% annualised EPS growth for 2025-2035.
By sector, benchmarks differ substantially. Information Technology expects 17-19% growth in 2025 with a reasonable threshold of 15%+. Communication Services expects 35% growth, with a threshold of 12%+. Consumer Discretionary expects 10% with an 8%+ threshold. Financials expect 8% with a 7%+ threshold. Healthcare expects single-digitgrowth witha 6%+ threshold.
The PEG ratio offers a growth-adjusted valuation lens. P/E divided by EPS growth rate below 1.0 traditionally signals undervaluation. Peter Lynch called a PEG of 1.0 fair value. Current sector PEGs range from 0.12 for Broadcasting to 59.85 for Metal Fabrication. Among major tech companies, Meta trades at approximately 0.4x PEG, Alphabet at 0.6x, and NVIDIA at 1.1x.
When EPS growth fails to translate into stock returns
The short-term correlation between EPS and stock prices is essentially zero, with a correlation of 0.2 from 1904 to 2020. In any given quarter, multiple factors overwhelm earnings fundamentals. In the long term, however, the relationship becomes decisive.
Multiple compressions can overwhelm strong earnings. Netflix traded at the same price in late 2022 as in Q2 2020 despite years of earnings growth. Extreme P/E compression from 40x+ to under 20x eliminated shareholder gains. Throughout 2022, many technology stocks reported solid earnings but fell 30-50% as rising interest rates compressed growth multiples.
The market rewards EPS growth when growth accelerates, ROIC is stable or improving, cash flow validates reported earnings, analyst estimates are being upgraded, and interest rates remain accommodative.
EPS growth remains the dominant driver of long-term equity returns. However, quality and sustainability matter more than headline numbers. The current US market offers above-average projected EPS growth of 12-15% for 2025-2026 at premium valuations of 22x forward P/E.
For Indian investors seeking US exposure, the key differentiators are distinguishing organic EPS growth from buyback-driven arithmetic, identifying companies where cash flow validates reported earnings, recognising when elevated valuations leave no margin for error, and understanding that even strong EPS growth cannot guarantee returns when multiples contract. The disciplined investor focuses on what they can analyse rather than what they cannot predict.
Disclaimer: The views and recommendations made above are those of individual analysts or brokerage companies, and not of Winvesta. We advise investors to check with certified experts before making any investment decisions.
Ready to earn on every trade?
Invest in 11,000+ US stocks & ETFs
