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What is stock split and stock split reverse?


Apple, Amazon and Tesla have all split their stocks in the past in order to make their shares more accessible to retail investors. In the following article you will learn what a stock split is, why do companies go through the hassle and expense of a stock split, what are reverse stock splits and why would a company do a reverse split.

What is a stock split?

In simple terms, a stock split is a when a company divides it’s existing shares of its stock into multiple new shares to boost the stock’s liquidity. Although the number of shares outstanding increases by a specific multiple, the total dollar value of the shares remains the same compared to pre-split amounts, because the split does not add any real value. The most common split ratios are 2-for-1 or 3-for-1 which means that the stockholder will have two or three shares after the split takes place, respectively, for every share held prior to the split.

For example, if the company whose shares you hold decides of a 3 for 1 stock split, as a shareholder you will get 3 shares for every 1 share held. So, if the company had 10,000 outstanding shares before the share split, now the number of outstanding shares will be 30,000.

A stock split is a corporate action in which a company divides its existing shares into multiple shares. Basically, companies choose to split their shares so they can lower the trading price of their stock to a range deemed comfortable by most investors and increase the liquidity of the shares.

Most investors are more comfortable purchasing, say, 100 shares of $10 stock as opposed to 10 shares of $100 stock. Thus, when a company’s share price has risen substantially, many public firms will end up declaring a stock split at some point to reduce the price to a more popular trading price. Although the number of shares outstanding increases during a stock split, the total dollar value of the shares remains the same compared to pre-split amounts, because the split does not add any real value.

Reasons for a stock split

Reverse stock splits

A reverse stock split is when a company decreases the number of shares outstanding in the market by canceling the current shares and issuing fewer new shares based on a predetermined ratio. For example, in a 2:1 reverse stock split, a company would take every two shares and replace them with one share. A reverse stock split results in an increase in the price per share. A stock split, on the other hand, is when a company increases the number of shares outstanding by splitting them into multiple shares. So, in a 2:1 stock split, each share of stock would be split into two shares, with the result being a decrease in the price per share.

Stock splits are most commonly associated with positive news, as they typically happen when a stock has performed quite well, and they generally result in an increased number of shares owned by each investor. But those splits, officially called forward stock splits, are only one variety. It’s also possible for a company to complete a reverse stock split, which works in the exact opposite way. Unlike forward splits, reverse stock splits leave shareholders with fewer shares, and they often result from situations in which a stock has lost a substantial amount of its value.

Calculating the effects of a reverse stock split is easy. Simply divide the number of shares you own by the split ratio and multiply the pre-split share price by the same amount. For instance, say a stock trades at $1 per share and the company does a 1-for-10 reverse split. If you own 1,000 shares — worth $1,000 at current prices — you’ll get one new share for every 10 old shares you own, or 100 new shares. Immediately following the reverse split, the stock price will rise tenfold to $10 per share. That will leave your smaller position still worth the same amount, as 100 shares multiplied by $10 per share equals $1,000. To be perfectly clear, a reverse stock split doesn’t change the overall value of your investment — at least not all by itself.

Why do a companies do reverse stock splits?

A company does a reverse split to get its share price up. The most common reason for doing so is to meet a requirement from a stock exchange to avoid having its shares delisted. For example, the New York Stock Exchange has rules that allow it to delist a stock that trades below $1 per share for an extended period. Plus, many institutional investors are not permitted to invest in stocks with share prices below a certain minimum.

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