A lot of people get confused about Stock split, does it increase or decrease the stock value, size. What happens to it? The concept is similar to a pizza pie, it remains the same no matter how many slices you make. So, what is a stock split?
A stock split is a decision by a company’s board of directors to increase the number of shares presently available by issuing more shares to current shareholders. A stock split increases the number of shares and decreasing the individual share price but not changing the total market capitalization of the company.
For example: If a company has 80 million shares outstanding and the price of each share is $40. Now it plans for 2 for 1 share split, this means the outstanding shares are 160 million for the price of $20 each share price. Now the number of shares has increased and the price has decreased but the market capitalization is still same. A company can also do 3 for 1 split, 4 for 1 split depending on the decision made by the company’s board of directors.
- A stock split is an action taken by the company to increase the number of their outstanding shares by issuing more shares to the shareholders.
- Stock split makes the shares more affordable to small investors.
- In this process the outstanding shares increases but the price decreases but the market capitalization remains the same (value of the company remains same).
- The common split ratios are 2 for 1 split, 3 for 1 split and there can be more.
- Another form of stock split is done by a company when the share split increases the price of each share rather than reducing the market price of the share.
What is Reverse Stock Split?
Reverse spilt is another form of stock split, just the opposite of forward stock split. In this process, the share prices increases by splitting the shares instead of reducing of price.
A company does this because they are afraid their shares are going to be delisted or as a way of gaining more reputation in the market by increasing their prices. Many stock exchanges will delist stocks if they fall below a certain price per share.
For example, in a reverse 1-for-5 split, 20 million outstanding shares at $5 each would now become 4 million shares outstanding at $25 per share. In both cases, the company is still worth $20 million.
For example: In May 2011, Citicorp had reverse split share of 1 for 10 in order to reduce its volatility and discourage speculator trading. The reverse split increased its share price from $4.52 to $45.12 post-split. Every 10 shares held by an investor were replaced with one share. The split reduced the number of its shares outstanding from 29 billion to 2.9 billion shares, the market capitalization of the company stayed the same (at approximately $131 billion).
Why do companies have stock splits?
When a company share prices are too high, they do a stock split in order for more investors to invest in the company’s shares. This seems to be more affordable way to invest in the company stocks. Normally, after the stock split the stock price is reduced but in the future due to demand the prices increase and as more investors invest in the shares the prices keep increasing, as investors assume there will be more growth in the company.
In June 2014, Apple Inc. split its shares 7-for-1 in order to make their shares more accessible to a larger number of investors. Right before the split, each share’s opening price was approximately $649.88. After the split, the price per share at market open was $92.70 (648.90 ÷ 7). After few months, as there were more investors investing the shares the prices currently have soared to $145.