A stock split is a corporate action of a company in which that company increases the number of outstanding shares by issuing additional shares to existing shareholders on a specific date. A company typically opts for this split to make the stock more accessible to a wider range of investors, as the per-share price is reduced proportionately.
A reverse stock split can be viewed as the opposite of a stock split. It is a corporate action of a company in which that company reduces the number of outstanding shares by issuing fewer shares in exchange for existing shares on a specific date. A company typically opts for this split to boost the per-share price and make the stock appear more attractive to institutional investors.
Example of a stock split
Suppose a company has 10 million outstanding shares, and the stock is trading at $100 per share. In a 2-for-1 stock split, each shareholder would receive an additional share for every share they own, doubling the number of outstanding shares to 20 million. The per-share price would halve to $50, but the total value of the shareholder’s investment would remain the same.
So, if an investor owned 100 shares before the split, they would own 200 shares after the split, and their investment would still be worth $10,000 (200 x $50). The stock split has not affected the intrinsic value of the company or the value of the shareholder’s investment. Still, it has made the stock more accessible to a wider range of investors by reducing the per-share price.
Example of a reverse stock split
Suppose a company has 10 million outstanding shares, and the stock is trading at $1 per share. In a 1-for-10 reverse stock split, each shareholder would exchange 10 shares for 1 new share, reducing the number of outstanding shares to 1 million. The per-share price would increase to $10, but the total value of the shareholder’s investment would remain the same.
So, if an investor owned 100 shares before the split, they would own 10 shares after the reverse split, and their investment would still be worth $1000 (10 x $100). The reverse stock split has not affected the intrinsic value of the company or the value of the shareholder’s investment. Still, it has boosted the per-share price to make the stock appear more attractive to institutional investors.
Stock split and reverse stock split by an ETF issuer
A stock split and reverse stock split by an ETF (Exchange-Traded Fund) issuer works similarly to a stock split or reverse stock split by a company. In the case of a stock split by an ETF issuer, the issuer increases the number of ETF units outstanding, which typically results in a reduction of the ETF’s net asset value (NAV) per unit. In the case of a reverse stock split by an ETF issuer, the issuer reduces the number of ETF units outstanding, which typically increases the ETF’s NAV per unit.
The main difference is that the ETF’s NAV per unit reflects the value of the underlying assets held by the ETF, such as stocks, bonds, or commodities. So, in both cases, the value of the ETF’s underlying assets remains unchanged, but the number of ETF units and their NAV per unit changes.
It’s important to note that a stock split or reverse stock split by an ETF issuer does not necessarily indicate a change in the underlying assets or the investment strategy of the ETF.
Frequency of stock splits and reverse stock splits
The frequency of both stock splits and reverse stock splits can be influenced by current market price, market conditions, economic trends, and regulatory considerations. Some companies may opt for a split or reverse split as a way to signal their financial health or growth prospects to the market.
It’s important to note that not all companies engage in stock splits or reverse stock splits, and the decision to do so is ultimately up to the company’s management and board of directors.
Reading between the lines
The stock split or reverse stock split process requires companies or ETF providers to incur additional administrative costs. In both cases, it is preferable to consider the motivations behind the split and to analyze the company’s or ETF’s financial performance and outlook.
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