Answer Posted / richa

Remember that earnings per share is calculated by dividing
the company's profit by the number of shares outstanding.
Warrants, stock options, convertible preferred shares, etc.
all serve to increasing the number of shares outstanding. As
a shareholder, this is a bad thing. If the denominator in
the equation (shares outstanding) is larger, the earnings
per share is reduced (the same profit figure is used in the
numerator).

This is a conservative metric because it indicates somewhat
of a worst-case scenario. On one hand, everyone holding
options, warrants, convertible preferred shares, etc. is
unlikely convert their shares all at once. At the same time,
if things go well, there is a good chance that all options
and convertibles will be converted into common stock. A big
difference in a company's EPS and diluted EPS can indicate
high potential dilution for the company's shares, an
attribute almost unanimously ostracized by analysts and
investors alike.

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