Fully diluted shares refer to the total number of shares that would be outstanding if all possible sources of conversion were exercised. Fully diluted shares are used to calculate earnings per share (EPS), which is a metric used to gauge a company’s profitability to its investors. Companies may issue various types of securities that can be converted into common stock, including stock options, convertible bonds and warrants, which are known as conversion sources. The fully diluted share figure for a company is increased when any such conversion source is exercised or converted into stock.

For example, if a company with 1 million fully diluted shares also has 10,000 stock options, each with the ability to convert into 100 common stock shares, then the fully diluted share count would increase to 1.1 million. However, take note that this number is simply used as a theoretical measure of the total number of shares outstanding, as full dilution may not occur all at once.

The main difference between the total number of common stock shares outstanding and the fully diluted share count is that options and other conversion sources do not lead to any direct payments but rather, the granting of shares. Therefore, earnings that are paid to shareholders as dividends are not subtracted from the company’s net income when calculating EPS, because dividends are paid to preferred stockholders and not to common stockholders.

EPS serves as an indicator for the overall profitability for a company’s investors, and it is important to consider the fully diluted share count when calculating EPS, as the figure may or may not are expected to change from time to time. Company policy regarding conversions may change over time, potentially impacting expectations about the future number of fully diluted shares. Companies are required to provide investors with disclosures regarding their dilution sources and any changes to dilution sources over time.

In conclusion, fully diluted shares are calculated to gauge a company’s profitability to its investors. It is important to consider the fully diluted share count when calculating EPS as the figure may or may not be expected to change. Companies typically provide investors with disclosures regarding their dilution sources and any changes to dilution sources. It is therefore important to keep this figure in mind when investing in a company, as it can help provide an indication of how much money the company is making and how it is expected to increase or decrease in the future.