Adjusted average outstanding shares: Meaning, Criticisms & Real-World Uses

What Is Adjusted Average Outstanding Shares?

Adjusted average outstanding shares refers to the weighted-average number of common shares that a company has had in circulation over a specific reporting period, typically a quarter or a year. This metric is a crucial component within financial accounting and corporate finance, particularly for calculating per-share metrics like earnings per share (EPS). It accounts for changes in the number of shares throughout the period, such as those resulting from new share issues, share repurchases, or stock splits, by weighting them by the portion of the period they were outstanding. This provides a more accurate representation of the shares available to the public and company insiders over time.

History and Origin

The concept of weighted-average shares outstanding, which forms the basis for adjusted average outstanding shares, gained prominence with the evolution of financial reporting standards. As companies grew and their capital structures became more complex, simply using the number of shares outstanding at a single point in time became insufficient for accurately reflecting per-share profitability. The need for a standardized approach led to the development of guidelines by accounting bodies. For instance, the Financial Accounting Standards Board (FASB) in the United States provides detailed guidance on the computation of earnings per share (EPS) under Accounting Standards Codification (ASC) 260, which includes the calculation of weighted-average shares outstanding. This standard emphasizes that shares issued or reacquired during a period should be weighted for the portion of the period they were outstanding.¹⁸,¹⁷

Key Takeaways

Adjusted average outstanding shares represent the weighted average of common shares over a reporting period.
This figure is essential for calculating per-share financial metrics, most notably earnings per share (EPS).
It accounts for fluctuations in the number of shares due to events like new stock issuance, share repurchases, and stock splits.
The weighting ensures that shares are counted only for the time they were actually outstanding during the period.

Formula and Calculation

The calculation of adjusted average outstanding shares involves determining the number of shares outstanding for each sub-period within the reporting period and weighting them by the fraction of the period they were outstanding.

The general formula can be expressed as:

\text{Adjusted Average Outstanding Shares} = \sum_{i=1}^{n} (\text{Shares Outstanding}_i \times \text{Weight}_i)

Where:

(\text{Shares Outstanding}_i) = Number of common shares outstanding during sub-period i.
(\text{Weight}_i) = Fraction of the total reporting period that sub-period i represents.
n = Total number of sub-periods.

For example, if a company has 10 million shares outstanding for the first six months of a year and then issues an additional 2 million shares, resulting in 12 million shares outstanding for the remaining six months, the weighted average would consider the time each number of shares was in existence. This calculation is crucial for accurate profitability ratios.

Interpreting the Adjusted Average Outstanding Shares

Interpreting the adjusted average outstanding shares primarily revolves around its use in calculating per-share metrics. A lower number of adjusted average outstanding shares, assuming consistent net income, will result in a higher earnings per share (EPS). Conversely, an increase in shares, perhaps through a secondary offering, will dilute EPS if earnings do not grow proportionately. Investors and analysts use this metric to assess a company's financial performance and to make informed investment decisions. It provides a standardized denominator for comparing the earnings power of a company over different periods, even when its capital structure changes.

Hypothetical Example

Let's consider Company A's share activity over a fiscal year (365 days):

January 1 to March 31 (90 days): 10,000,000 shares outstanding.
April 1 (Day 91): Company A issues an additional 2,000,000 shares through a public offering.
April 1 to September 30 (183 days): 12,000,000 shares outstanding.
October 1 (Day 274): Company A repurchases 1,000,000 shares as part of a share buyback program.
October 1 to December 31 (92 days): 11,000,000 shares outstanding.

To calculate the adjusted average outstanding shares for the year:

Period 1: (10,000,000 shares * 90 days) = 900,000,000 share-days
Period 2: (12,000,000 shares * 183 days) = 2,196,000,000 share-days
Period 3: (11,000,000 shares * 92 days) = 1,012,000,000 share-days

Total Share-Days = 900,000,000 + 2,196,000,000 + 1,012,000,000 = 4,108,000,000 share-days

Adjusted Average Outstanding Shares = (\frac{\text{4,108,000,000 share-days}}{\text{365 days}}) (\approx) 11,254,795 shares

This adjusted average would then be used as the denominator for calculating the company's annual EPS.

Practical Applications

Adjusted average outstanding shares are primarily used in the calculation of Earnings Per Share (EPS), a key indicator of a company's profitability on a per-share basis. This metric is critical for financial analysts, investors, and regulatory bodies. For instance, the U.S. Securities and Exchange Commission (SEC) mandates companies to report EPS in their financial statements, requiring the use of weighted-average shares outstanding.¹⁶

Share buybacks, which reduce the number of outstanding shares, can increase EPS even if net income remains constant.¹⁵,¹⁴ Conversely, issuing new shares through a primary offering or convertible securities will increase the adjusted average outstanding shares and can dilute EPS. This measure also plays a role in valuing companies using metrics like the price-to-earnings (P/E) ratio. Furthermore, understanding this calculation is essential for comprehending the impact of corporate actions like stock splits. For example, Thomson Reuters (TRI) executed a stock split in June 2023. Such events significantly alter the number of shares and necessitate adjustments to the weighted average for accurate historical comparisons.¹³,¹²

Limitations and Criticisms

While essential for accurate per-share metric calculation, adjusted average outstanding shares have limitations. One criticism is that a company can manipulate EPS through share buybacks without necessarily improving operational performance. Although share repurchases can boost EPS by reducing the denominator, some academic research suggests that the impact on shareholder value may be minimal or even misleading, particularly if buybacks are funded by debt rather than excess cash flow.¹¹,¹⁰,⁹,⁸ This practice, sometimes referred to as "financial engineering," can obscure underlying weaknesses in a company's business model or operating efficiency.

Additionally, the calculation can be complex when a company experiences frequent changes in its share count, such as through the exercise of stock options or the issuance of restricted stock units. These complexities require careful accounting treatment to ensure the adjusted average outstanding shares accurately reflect the average number of shares throughout the period. The accounting for treasury stock, which reduces the number of shares outstanding, also has specific rules that impact this calculation.⁷,⁶,⁵,,⁴

Adjusted Average Outstanding Shares vs. Diluted Average Outstanding Shares

The term "adjusted average outstanding shares" is often used synonymously with "weighted average shares outstanding" for basic EPS calculations. However, it's crucial to distinguish this from diluted average outstanding shares.

Feature	Adjusted Average Outstanding Shares (Basic)	Diluted Average Outstanding Shares
Definition	Actual weighted average of common shares outstanding during the period.	Weighted average shares plus the impact of all potential dilutive securities.
Included Shares	Only common shares currently issued and outstanding.	Common shares outstanding plus shares from exercisable stock options, convertible bonds, convertible preferred stock, and other dilutive instruments.
Purpose	Calculates basic EPS, reflecting current profitability per actual share.	Calculates diluted EPS, showing "worst-case" profitability if all potential shares were issued.
Impact on EPS	Used for basic EPS.	Generally results in a lower (or equal) EPS than basic EPS due to a larger denominator.

The key difference lies in the inclusion of potential common shares. While adjusted average outstanding shares (basic) considers only shares currently in circulation, diluted average outstanding shares takes into account all securities that could potentially be converted into common stock, thereby increasing the total share count and potentially lowering EPS. This distinction is vital for investors seeking a comprehensive understanding of a company's per-share earnings power and potential equity dilution.³

FAQs

Why is it called "adjusted" average outstanding shares?

It's called "adjusted" because the calculation accounts for (adjusts to) the varying periods during which different quantities of shares were outstanding due to corporate actions like new issuances or repurchases. This provides a time-weighted average rather than a simple average or end-of-period count.

How do stock splits affect adjusted average outstanding shares?

Stock splits retrospectively adjust the number of shares outstanding for all periods presented. If a company has a 2-for-1 stock split, the number of adjusted average outstanding shares for all prior periods is doubled to make the figures comparable. This ensures the EPS calculation remains consistent across periods.,²,

Is treasury stock included in adjusted average outstanding shares?

No, treasury stock is excluded from the adjusted average outstanding shares calculation because these shares have been repurchased by the company and are no longer considered outstanding in the market for purposes of dividends, voting, or EPS.¹, They are treated as a reduction in shareholders' equity.

What financial statements use adjusted average outstanding shares?

The adjusted average outstanding shares figure is primarily used in the income statement to calculate earnings per share (EPS). It is also implicitly relevant when analyzing the balance sheet for changes in the number of outstanding shares and their impact on equity.

Can adjusted average outstanding shares be negative?

No, the adjusted average outstanding shares cannot be negative. The number of shares outstanding will always be zero or a positive value.