When a company does a spin-off, a portion of that company's business becomes a new company. Since the spinner will now be a smaller company, it makes sense that the share price will drop. However, the "spinnee" company will have its own value. Investors in a company that undergoes a spin-off do not lose any value in the transaction.
With a spin-off, a company splits itself into two separate companies. Often the spin-off is a business division that is significantly different from the rest of the company. With a spin-off from a publicly traded company, the new company will become a separately traded stock with its own stock symbol. As an example, in May 2012, energy company ConocoPhillips spun-off its refining and chemical businesses, which became the new Phillips 66 company.
Share Value Drop
When the spun-off company starts trading on its own, the share price of the parent company will drop by the value of the new company, now separated from the parent. The lost value will be reflected in the share price of the new company. With the ConocoPhillips spin-off, the company's stock price closed at $71.63 the day before Phillips 66 started trading. The next day, the stock opened at $55.92 and Phillips 66 shares opened at $33.74. ConocoPhillips issued one Phillips 66 share for each two Conoco shares so the combined value of $55.92 plus $16.87 -- half of $33.74 -- or $72.79 was pretty close to the before spin-off share price.
Investors Get Shares
Investors who own shares of the company that is spinning off part of itself will receive shares in the new company as part of the transaction. At the time of the spin-off, an investor goes from owning shares of one stock to holding shares of two stocks. The total investment value will stay about the same. In the ConocoPhillips spin-off, an investor with 100 shares of Conoco before the spin-off still held the 100 shares after the spin-off plus 50 shares of Phillips 66.
If you own a stock that spins off another company, you then need to decide what to do with both stocks. You can keep the shares of both companies or decide to sell one or the other. The two companies should be evaluated on the investment potential of each. A spin-off is usually a tax-free distribution of the new stock to investors. A proportional amount of your cost basis in the original shares will go to the new spin-off shares. In most cases, the investor relations pages of the companies' websites will provide a cost basis percentage for the newly issued shares.
Tim Plaehn has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, Marketwatch.com and various other websites. Plaehn has a bachelor's degree in mathematics from the U.S. Air Force Academy.