Each corporation has a certain number of outstanding shares among owners. The number of shares you own might change as a result of business decisions that companies pursue. One such decision is a forward stock split.
A forward stock split can add to the number of stocks you own, but it does not increase your investment value. When a company issues a stock split, those who already own stock in the company end up with more stock without making additional investments. If a company issues one share for each outstanding share, then the number of shares doubles, and this is called a 2-for-1 stock split. Because nothing has happened to increase the company’s value, the effect of doubling the number of shares reduces the stock price to half and keeps the company’s value the same. In another example, if a company announces two shares per share outstanding in a 3-for-1 stock split, each share value would fall to a third to keep the company’s value the same.
Reverse Stock Split
Companies also can issue reverse stock splits. If a company announces a reverse stock split for shares you own, it means that instead of giving you additional shares, the company will merge your shares and reduce the number of shares you own. So, for example, every two shares you own could become one. Like a forward stock split, a reverse stock split does not change the company’s value. In this case, the only effect is to double the value of each share, leaving the value of the company the same.
A forward stock split might appear futile because there is no fundamental change. However, small investors might appreciate forward stock splits. When a company’s share increases significantly, it can be difficult for small investors to buy a reasonable number of shares. If a company's stock prices were $600 per share, 100 shares would cost you $60,000, probably too much for small investors. However, if the company reduced the price of each share to $200, then 100 shares would cost $20,000, making it possible for more investors to buy those shares. Example: Apple Inc. stock was priced at more than $600 per share in 2012. If Apple were to issue a 10-for-1 stock split, more investors would be able to enjoy the returns of this very profitable company.
Another reason to issue a forward stock split can be to increase the price of shares by increasing demand for a company’s shares. Usually, forward stock splits are issued by companies whose share price is increasing. Forward stock splits can signal to the market that the price of a company’s shares is rising, and that the stock therefore might be a good buy. The company also might expect demand for its stock to increase because more investors could afford to purchase its stock after a forward stock split.
Video of the Day
- stock chart image by selim kisa from Fotolia.com