What formula is used to calculate earnings per share (EPS)?

The formula for calculating earnings per share (EPS) is indeed net income minus preferred dividends divided by the average number of common shares outstanding. This approach accurately reflects the earnings attributable to common shareholders, as preferred dividends must be subtracted from net income since they are not available to common shareholders.

Using this formula ensures that the calculation of EPS represents the portion of a company's profit that is allocated to each share of common stock, which is a crucial metric for investors assessing the profitability of their investment in the company. It provides insight into the company's financial performance on a per-share basis, making it easier to compare with other companies or time periods.

This differs from other options, which either do not appropriately account for preferred dividends or use incorrect denominators, leading to misleading representations of a company's earnings performance in relation to its common equity.