Hello, everyone. In today’s guest post, Chris Pascale is going to share his thoughts on reverse stock splits.
Reverse Split? Sell, Sell, Sell – By: Christopher Pascale
A reverse split is when a company reduces the number of shares it has on the market as a means of raising its share price. For example, if you own 100 shares of ABC Corp. at $2 per share, and the company enacts a 1:25 split, then your 100 shares are now 4 shares, and the price goes from $2 to $50.
The opposite of this is a split, which is commonly done at a ratio of 2:1, meaning that in the example above, your 100 shares would turn into 200 shares, but the price would be half as much.
Why Do Companies Split and Reverse Split?
A split is generally a very good thing. Share prices have gone up so much, and the company wants the price to keep going up, but worries that normal investors can’t buy shares if they are too much. So they cut the price in half at no cost to current shareholders.
Many times, the price goes up even more, and it’s possible another split is in the near future. For example, Microsoft shares have split repeatedly since the 1980s, which is why a share of the stock is only over $100, and not several thousand. By keeping the share price affordable, someone with only hundreds to invest at a time can still buy these dividend-yielding shares.
The reason a company does a reverse split is that its share price is too low, which puts it at risk of being taken off the stock exchange. But another way companies can stay in the good graces of the stock exchange is by making a profit! By increasing sales and being profitable, a stock will be valuable. No value is added with a reverse split.
Because the company is playing games instead of making money, it seems the logical thing to do in the case of a reverse split, at least in the short-term, is sell, sell, sell.
For some additional resources check out the following links:
Christopher Pascale is an author, accountant and adjunct professor from Long Island. He is the former CFO of Portfolios with Purpose, and is a current member of the IRS’ Office of Appeals.
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