Reverse Stock Splits

Penny Stock Pick Alert

Penny Stock Pick Alert Blog header image 2

Reverse Stock Splits

June 2nd, 2010 · Dallas TX, USA -

Stock split is a corporate action which involves splitting of the existing share(s) into smaller units of lesser par value. Stock split is an involuntary corporate action which is decided by the board of directors.

For example, a company decides to stock split and the ratio decided by the board of directors was in the ratio 4:1. What this means is that each stock held by the shareholders will be split into 4 shares. The ratio is always in the form A: B, where B is a stock held by the shareholder and A is the fraction into which each share is divided.

The reason companies’ stock split is to make their stock prices affordable and available to investors. Stock prices of some companies are very high and it makes trading difficult as few investors can afford it. As a result the trading volume goes down. Splitting increases the availability of stock for trading. In order to maintain liquidity and marketability of the stock companies got for stock split.

Stock split should not be taken as increase in net worth for the shareholder or increase in stock market capitalization for the company. It would be a risky to invest in companies which offer stock split under the impression that it would increase you stocks in hand and associated benefits with the stock(e.g. dividends.). Usually after a stock split the share prices goes down. It might increase however, the increase would be purely due to the demand of the stock at this new price which is lower and investors expect that the stock would reach the old price.

If you hold 100 stocks of a company and price per stock is $20. If there is a stock split of 2:1, the number of shares in your kitty would increase to 200 however, the price would drop to $10. Your net worth at the end of the day remains same $2000. Similarly for the company the number of shares outstanding would increase and he price per share would fall. The total market capitalization of the company remains unaffected.

At times to comply with the regulatory guidelines the company goes for stock split. For example, if the stock trading volume of a stock drops below a particular limit it might be delisted from the stock exchange.

Tags: Investment