Are you just starting your journey with shares? Then keep reading! In any market you get into, knowing everything you can about it is essential. You can even say, in trade, the market is the battleground and your knowledge is the bullets. So, the more you know about a market, the more ammo you have, which means higher chances for gains.
Today, you’ll be learning about stock splits and reverse stock splits. To gain a better understanding of the two, how they work and why they’re relevant in shares trading, below is a rundown to consider:
What is a Stock Split?
So to understand the difference between stock split and reverse stock split, you should know them apart! So basically, stock splits occur when a business issues more shares to improve the stock’s liquidity. This is done by adding to the total by the designated ratio according to the shares they had previously held.
Despite the number of shares issued growing by a particular multiple, the total dollar worth of all shares outstanding still stays the same. This is because a split does not essentially impact the company’s worth/value.
Some of the most common examples of split ratios are 2:1 or 3:1. So this implies for every share owned before the split, every shareholder will get two or three shares, accordingly, after the split.
What Happens to My Shares if a Company Undergoes a Stock Split?
In the event of a stock split, more shares with a commensurate price reduction are credited to shareholders of record. To help you better understand, here is an example. For example, if you have around 100 existing shares being traded at $50 each, after the split you will have 200 shares traded at $25 each–for a typical 2:1 stock split.
Will My Taxes Be Affected by a Stock Split?
Nope! Since the receiving of extra shares will not result in taxable income under current US law, stock splits do not affect an individual’s taxes. Every share that is owned following the stock split will have a tax basis that is half of what it was before the split.
What Are The Benefits of Stock Split?
Benefits overflow when a stock split occurs! To give you an idea of what to expect, here is a quick list:
- Lowered share price – A stock split’s principal result is a decrease in the share price of the stock. A wider spectrum of investors and traders may be able to purchase the stock due to its reduced nominal price. Which might lead to an increase in trading activity and liquidity.
- Better liquidity – A cheaper share price may make the stock more accessible to investors, which would boost trading activity. Investors may find it simpler to purchase or sell shares thanks to this increased liquidity without having a big effect on the stock price.
- Option and warrants adjustment – A stock split can change the amount of shares secured by warrants and stock options that are still outstanding for a corporation, as well as their exercise prices. This serves to better balance the interests of holders of warrants and options with the new share design.
Are Stock Splits Good or Bad?
In a nutshell, stock splits are a good thing. This is due to the fact that stock splits occur when a company’s price has been rising so rapidly that it may discourage new investors. Thus, a split can frequently be indicative of expansion or the potential for future growth and is a good indicator. Also, if new investors are drawn in by the reduced nominal share price, the price of a recently split stock can rise.
What is a Reverse Stock Split?
Now for reverse stock splits, this happens to be the opposite of stock splits. This is a corporate action that reduces the quantity of outstanding stock shares to a smaller number of more expensive shares. Reverse stock splits occur when the current total number of shares is divided by a certain amount, such as five or ten.
This is also known as 1-for-5 or 1-for-10 reverse splits. A reverse stock split is the inverse of a stock split, which divides a share into numerous pieces. It is also referred to as a stock consolidation, stock combine, or share rollback.
There are several corporate activities that corporations might take that could affect their capital structure. This may depend on conditions and changes in the market. One of them is a reverse stock split, in which the company’s current shares are essentially combined to produce a lesser number of shares that are proportionately more valuable. Companies don’t add value by reducing the number of shares, thus the cost per share rises in line with that.
What Happens to My Shares if a Company Undergoes a Reverse Stock Split?
In the event of a reverse split, record owners will own fewer shares overall. But the price of each share would rise proportionately–again, just like stock splits but in reverse. So, for instance, you own around 1000 shares being traded at $5 each, after the split, you’ll own 100 shares being traded for, now, $50 each–for a typical 1:10 reverse stock split.
Why do Companies undergo a Reverse Stock Split?
This becomes a running option to go for when a share’s price decreases. So this puts it in danger of being removed from an exchange’s list. Since it doesn’t match specific minimum price requirements. So when a share undergoes a reverse stock split, this amps up the share price. This also becomes attractive to particular traders.
What Are The Benefits of Reverse Stock Splits?
There are tons of benefits when a reverse stock split occurs. But to give you an idea of how this can be beneficial, here is a rundown:
- Companies get to meet exchange listing requirements – There are minimum price per share criteria for listing on several stock exchanges. Reverse stock splits can raise a company’s share price if its stock price drops below this level. What this does is assist it in meeting listing criteria once more.
- Perceived value – A greater stock price might be interpreted by investors as a sign of a more stable or healthy business. Investor view of the firm can be improved and elevated with a reverse stock split.
- Attracts more institutional investors – Institutional investors may have limits on investing in equities below a specific price per share. The share price of the stock may rise as a result of a reverse stock split. Which increases its appeal to institutional investors.
Reverse Stock Splits– Are They Good or Bad?
Reverse splits are frequently seen negatively. This is because they indicate a substantial decrease in a company’s share price, which might result in its delisting. For certain retail traders and investors who like companies with lower sticker prices, the higher-priced shares after the split could also be less appealing.
Different Process, Same Value!
So whether your company is going through a stock split or a reverse stock split, the only main difference is the process for how they trade the shares–everything else, value-wise, remains the same. And when this happens, either one of the splits, your broker is the one that’ll handle everything–so you don’t have to worry about a thing. So if you ever wonder how to trade shares the right way, keep learning!