Adjusted economic outstanding shares

What Is Adjusted Economic Outstanding Shares?

Adjusted Economic Outstanding Shares refer to a theoretical or analytical measure that seeks to provide a more comprehensive view of a company's total outstanding equity than traditional accounting metrics. Unlike the more commonly reported shares outstanding or diluted shares outstanding, Adjusted Economic Outstanding Shares attempts to capture the full potential dilutive impact on existing shareholders by considering all forms of potential future share issuance and the net effect of share repurchase programs. This concept falls under the broader umbrella of equity analysis, aiming to give investors and analysts a clearer picture of potential dilution and its impact on per-share metrics, particularly when assessing shareholder value.

History and Origin

While "Adjusted Economic Outstanding Shares" is not a formally recognized accounting term with a distinct historical origin, the concept behind it emerged from the need to evaluate the true economic impact of various corporate finance activities on a per-share basis. As equity compensation mechanisms like stock options and restricted stock units became more prevalent, and as share buybacks surged, analysts sought ways to look beyond statutory share counts. For instance, the Financial Services Forum, representing large U.S. banks, notably announced a temporary suspension of share buybacks in March 2020 to preserve capital amidst economic uncertainty, highlighting the significance of such programs on a company's capital structure and available shares.⁴ This ongoing evolution in corporate capital management practices necessitates a more nuanced view of the actual shares that economically represent ownership claims.

Key Takeaways

• Adjusted Economic Outstanding Shares aim to provide a more holistic view of a company's true share count, encompassing all potential dilutive instruments.
• This metric goes beyond statutory financial reporting to offer a deeper analytical perspective.
• It considers the full impact of equity compensation and treasury share management.
• The concept is particularly useful in valuation and assessing per-share performance under various scenarios.
• There is no single, universally standardized formula for Adjusted Economic Outstanding Shares; it is an analytical framework tailored to specific analytical needs.

Formula and Calculation

Since Adjusted Economic Outstanding Shares is an analytical concept rather than a standardized accounting metric, there isn't a universally prescribed formula. Instead, it involves adjusting the basic common stock outstanding for all potential sources of shares that could impact the economic ownership of existing shareholders.

Components typically considered for adjustment include:

• Basic Shares Outstanding: The number of shares currently held by investors.
• Dilutive Securities:
  • Stock Options: All options, vested or unvested, that could reasonably be expected to be exercised, regardless of whether they are "in-the-money" under traditional diluted earnings per share calculations.
  • Restricted Stock Units (RSUs): All RSUs, including those not yet vested, as they represent a future claim on shares that will dilute current owners upon issuance.
  • Convertible Debt and Preferred Stock: Shares that would be issued upon conversion of these securities.
  • Warrants: Shares issuable upon the exercise of outstanding warrants.
• Impact of Share Repurchases and Issuances: The net effect of a company buying back its own treasury stock versus issuing new shares (e.g., through secondary offerings or for acquisitions). This would assess the actual change in total shares over time.

Analytically, one might consider a comprehensive view, adding the fully vested shares and the shares that are expected to vest from all outstanding equity awards, even if conditions for vesting (like performance targets or future employment) have not yet been met. The goal is to estimate the maximum plausible economic share count under a given set of assumptions.

Interpreting the Adjusted Economic Outstanding Shares

Interpreting Adjusted Economic Outstanding Shares involves understanding the potential for future dilution beyond what is immediately apparent from a company's basic or even diluted share count. A significant difference between a company's reported shares outstanding and its Adjusted Economic Outstanding Shares suggests a substantial overhang of potential future shares. This "overhang" can come from unexercised employee stock options, unvested restricted stock units, or convertible securities that may not currently be dilutive under standard accounting rules but represent a real economic claim on future equity.

A rising trend in Adjusted Economic Outstanding Shares, especially if it outpaces genuine business growth, can signal increasing dilution for existing shareholders, potentially impacting per-share metrics like earnings and book value. Conversely, a reduction might indicate effective capital management, such as robust share buybacks offsetting new issuances, which can be a sign of strong corporate governance if executed strategically.

Hypothetical Example

Consider "Tech Innovations Inc." with 100 million common stock shares currently outstanding.

• Basic Shares Outstanding: 100 million
• Outstanding Stock Options: 10 million shares, granted to employees with various strike prices and vesting schedules.
• Outstanding Restricted Stock Units (RSUs): 5 million shares, unvested, that will convert to common stock over the next three years.

Under standard basic earnings per share, only the 100 million shares are counted. For diluted EPS, a portion of the stock options (those in-the-money) would be included, and potentially some RSUs depending on vesting.

However, for Adjusted Economic Outstanding Shares, an analyst might take a more expansive view:

1. Start with Basic Shares: 100 million
2. Add all Outstanding Stock Options: 10 million (assuming all are a potential future claim, regardless of current "in-the-money" status or vesting)
3. Add all Outstanding RSUs: 5 million (representing future shares to be issued)

Adjusted Economic Outstanding Shares = 100 + 10 + 5 = 115 million shares.

This 115 million figure, compared to the 100 million basic shares, immediately highlights a potential 15% future dilution that current shareholders could face, impacting their proportionate ownership and per-share metrics down the line.

Practical Applications

Adjusted Economic Outstanding Shares are primarily used in detailed financial analysis and valuation models, especially for companies that frequently use equity compensation or engage in significant share buybacks.

• Mergers & Acquisitions (M&A): Acquirers may use Adjusted Economic Outstanding Shares to determine the true cost of an acquisition, considering all potential shares that might need to be bought out or exchanged.
• Equity Research: Analysts employ this concept to get a more conservative or realistic estimate of a company's market capitalization and per-share metrics, particularly for high-growth companies that rely heavily on stock-based incentives. For example, large energy companies like Eni consider increasing their share buyback programs, which directly impacts their outstanding share count and per-share metrics.³
• Shareholder Activism: Activist investors might use this adjusted figure to highlight what they perceive as excessive employee stock grants or a lack of attention to overall shareholder dilution, pushing for changes in corporate governance or compensation policies.
• Internal Financial Planning: Companies themselves might use this internal metric to manage their long-term capital structure and plan for the dilutive effects of various equity programs.

Limitations and Criticisms

The primary limitation of Adjusted Economic Outstanding Shares is its lack of standardization. Since it is an analytical rather than a regulatory measure, different analysts or firms may apply different methodologies and assumptions, making cross-company comparisons challenging without understanding the underlying calculations.

Critics also argue that including all potential sources of shares, regardless of vesting conditions or exercise price relevance, might overstate the immediate dilutive threat. For instance, stock options far out-of-the-money might never be exercised. Additionally, some argue that share buybacks, while reducing the share count, don't always create economic value if the company could have invested the cash more productively. As noted by McKinsey & Company, while share repurchases can mechanically boost earnings per share, they do not necessarily create value for shareholders, especially if other investment opportunities are foregone.² This highlights that focusing solely on a single share count metric, even an adjusted one, might overlook the broader capital allocation decisions that impact shareholder value.

Adjusted Economic Outstanding Shares vs. Diluted Shares Outstanding

The key distinction between Adjusted Economic Outstanding Shares and diluted shares outstanding lies in their scope and purpose.

While diluted shares outstanding provide a baseline for statutory reporting, Adjusted Economic Outstanding Shares represents a more expansive and often more conservative perspective, aiming to capture the full spectrum of future share issuance that could impact per-share metrics from an economic standpoint.

FAQs

Q1: Why would "Adjusted Economic Outstanding Shares" be different from what a company reports?

A company typically reports "basic shares outstanding" and "diluted shares outstanding" as part of its financial reporting. Basic shares are the actual number of shares currently traded. Diluted shares include the effect of securities that could be converted into common stock, such as in-the-money stock options and convertible securities, following specific accounting rules. Adjusted Economic Outstanding Shares goes beyond these rules to include all potential sources of future shares, even if they aren't currently dilutive under accounting standards (e.g., out-of-the-money options or unvested restricted stock units that are expected to vest).

Q2: Is Adjusted Economic Outstanding Shares a standard metric?

No, Adjusted Economic Outstanding Shares is not a standard, universally defined metric. It is an analytical concept used by investors and analysts to get a more complete picture of a company's potential dilution and its impact on shareholder value. Its calculation can vary based on the specific assumptions and analytical needs of the user.

Q3: Why is it important to consider Adjusted Economic Outstanding Shares?

Considering Adjusted Economic Outstanding Shares provides a more conservative and comprehensive view of a company's true equity base. It helps investors understand the full extent of future dilution that might occur from employee equity compensation plans or other convertible instruments. This can be crucial for accurate valuation, especially for companies that grant substantial amounts of stock or options, as clarified by the differences in how stock options vs. RSUs function.¹ It helps in assessing the long-term impact on per-share metrics like earnings per share and cash flow per share.