Definition
A Reverse Stock Split is a corporate action in which a company reduces the total number of its outstanding shares. This action increases the value of each share without changing the company’s market capitalization. Essentially, it’s a method used by companies to potentially raise the market price of their stock and attract investors.
Key Takeaways
- A Reverse Stock Split is a corporate action that reduces the number of outstanding shares of a company. It increases the share price without affecting the total market capitalization of the company.
- Companies often use a reverse stock split to meet stock exchange listing requirements, as it can help lift their share price above the minimum threshold.
- Even though a reverse stock split increases the price per share, it doesn’t change a company’s overall value or the investment’s intrinsic value. It merely reduces the number of shares available for trading.
Importance
A Reverse Stock Split is an important financial term as it reflects a corporation’s strategic decision to reduce the total number of its outstanding shares in the market.
This move often aims to increase the stock’s per share price, improving the company’s market reputation because many institutional investors and stock-exchanges regard a higher-priced stock as a quality stock.
It can aid in attracting new investors and complying with the minimum price requirements of stock exchanges to avoid delisting.
However, a reverse stock split doesn’t change the overall market capitalization of the company as the increment in share price is offset by a reduction in the number of shares outstanding.
Thus, it is seen as a cosmetic change with implications primarily related to market perception and strategic positioning, rather than company fundamentals.
Explanation
A reverse stock split is primarily used by companies to increase the market price of their shares and to meet the minimum required share prices for listing on stock exchanges. Companies with lower share prices are sometimes viewed as risky or financially unstable, so a reverse split is often used to decrease the number of shares in circulation, effectively increasing their price and potentially attracting more investors.
A certain amount of existing shares are combined into a single new share, without changing the overall equity of the company. This process is also known as a share consolidation or a stock merge.
Moreover, reverse stock splits can also improve a company’s liquidity. If a company’s shares are trading at a very low price, many institutional investors, like mutual funds or pension funds, are restricted from purchasing them.
By employing a reverse split, companies can make their shares accessible to these large scale investors, which could stabilize the stock and boost its performance. Nevertheless, while a reverse split can often give the impression of financial stability and appeal to certain investors, the fundamental value and financial health of the company does not change as a result of this maneuver.
Examples of Reverse Stock Split
Citigroup Inc. 2011 Reverse Stock Split: In 2011, the American multinational investment bank and financial services corporation Citigroup executed a significantly large scale 1-for-10 reverse stock split. This happened after financial crisis of 2008, which had greatly impacted the company. Prior to the split, shares were trading as low as $02 each. After the reverse split, the share price was adjusted to approximately $
16 each and the number of outstanding shares was reduced from 29 billion to9 billion.
American International Group (AIG) 2009 Reverse Stock Split: After suffering severe financial difficulty during the 2008 financial crisis, the insurance giant AIG decided to implement a 1-for-20 reverse stock split to boost its share price. Prior to the reverse stock split, AIG shares were trading around $16 per share. After the split, the price of the shares increased to around $
AT&T Inc. 1987 Reverse Stock Split: AT&T, the American telecommunication company, carried out a reverse stock split in 1987, wherein five old shares were exchanged for three new shares. This increased the nominal price of the shares, which made them more attractive for institutional investors. The stock split supported AT&T’s efforts to consolidate its operations after the breakup of the monopolistic Bell System in the early 1980s.
Frequently Asked Questions: Reverse Stock Split
What is a Reverse Stock Split?
A reverse stock split is a corporate action in which a company reduces the total number of its outstanding shares. It increases the share price and the earnings per share proportionally but does not change the company’s total market capitalization.
Why do companies do a Reverse Stock Split?
Companies may go for a reverse stock split to increase their stock’s market price. It often happens with companies whose stock prices have fallen so low that they face delisting from the stock exchange. A reverse split boosts the price to a safe level.
What happens to the value of my shares in a Reverse Stock Split?
During a reverse stock split, the value of the total holding doesn’t change. For instance, if you have 20 shares each worth $1, after a 1-for-10 reverse split, you will have 2 shares each worth $10. The ownership remains unchanged.
Does a Reverse Stock Split affect dividends?
A reverse stock split does not directly affect a company’s dividend policy. The dividend per share would increase because there are fewer shares outstanding, but the total payout remains constant.
Does a Reverse Stock Split mean the company is in trouble?
A reverse stock split is often viewed negatively by shareholders, as it is usually undertaken by companies whose share prices have fallen substantially. However, a reverse split doesn’t mean the company is in financial trouble. It merely reflects a desire to boost their share price.
Related Entrepreneurship Terms
- Share Consolidation
- Reduced Number of Shares
- Increased Share Value
- Stock Market Capitalization
- Shareholder Equity
Sources for More Information
- Investopedia: This site offers comprehensive articles and resources on a wide array of finance and investing topics, including reverse stock splits, and is highly respected within the finance industry.
- MarketWatch: Another credible source routinely cited for finance knowledge. Offers news, analyses, and articles about the stock market, including an extensive library of knowledge about various stock terms like reverse stock split.
- The Motley Fool: This website provides a wealth of information on investing topics, including stocks and reverse stock splits. The website also provides stock market news, analyses, and recommendations.
- Reuters: Known for their business and finance news, Reuters also provides in-depth explanations of financial terms and trends. Their content also includes expert insights and explanations about the implications of a reverse stock split.
