We were asked, "How can you tell if a company's increased earnings per share isn't just due to the company buying back shares of its stock?"
That's a great question. While share buybacks are generally good, as they boost the value of each remaining share of stock, ideally they shouldn't be the only driver of earnings per share (EPS) growth. Also, if a company's stock is trading at too-high levels, then the company is squandering money by buying back shares at inflated levels. Share buybacks should occur at attractive levels.
But back to the question. To see what's going on, focus on net income. Share buybacks reduce the number of shares outstanding (because shares bought back are essentially retired). When the number of shares decreases, the earnings per share rise. To get a handle on what's happening without regard to buybacks, just examine the total net income, before it's divided by the number of shares and becomes EPS. Then compare that number with EPS.
For example, look at these numbers for AutoZone
If you didn't know how many shares outstanding the company had, you could still tell that the number of shares had decreased, since EPS was increasing faster than net income (9% vs. 1%).
Richard Gibbons delved deeper into this topic last year, noting that:
"In the last reported quarter, Applied Materials
"A good example of a bad buyback was IBM's