Why Do Companies Do Stock Splits and How It Impacts the Market?

Companies do stock splits to make their shares more affordable and attractive to investors. This makes it easier for people to buy and own more shares, which can increase trading volume and liquidity.

A stock split can also make a company's stock price more competitive with other companies in its industry. For example, if a company's stock price is $100 per share, a 2-for-1 split would make the price $50 per share, which can make it more appealing to investors.

Stock splits can also impact the market by making a company's stock more visible and attractive to a wider range of investors. This can lead to increased trading activity and a higher stock price over time.

A stock split is a way for companies to divide their shares into more shares, making it easier for investors to buy and sell them. This is often done to increase the company's liquidity.

Companies typically engage in a stock split so that investors can more easily buy and sell shares. This can be beneficial for new investors who want to get into the market without having to shell out a lot of money for a single share.

In a 2-for-1 split, existing shareholders receive two new shares for every one share they already own. For example, if your current stock is valued at $100 per share and there is a 2-for-1 split, you will have two shares worth $50 each.

Stock splits can also be at higher ratios, such as a 3-for-1 split or even a 20-for-1 split, like Amazon's recent example. Existing shareholders will get the new ratio of shares for each share they currently own.

The total investment value remains unchanged in a stock split. For instance, if an investor owns 100 shares of Company XYZ at ₹800 per share, the total investment value is Rs. 80,000. Following a 2-for-1 stock split, the investor would hold 200 shares at ₹400 per share, with the total investment value staying at Rs. 80,000.

Not much else changes in a stock split; the company's market capitalization and other key financial metrics remain the same. Market professionals have long debated the merits of splits and whether investors realize any benefit.

Companies engage in stock splits to make their shares seem more affordable, even though the underlying value of the company hasn't changed. This is often a concern for investors who feel uncomfortable with high share prices.

A stock split can increase the stock's liquidity, making it easier for more investors to buy and sell the stock. This is exactly what happened with Apple Inc. in 2014, when it split its shares seven-for-one.

A stock split can also result in a share price increase, even though there may be a decrease immediately after the split. This is because small investors may perceive the stock as more affordable and buy the stock.

The increased demand for the stock drives up prices, and a stock split can provide a signal to the market that the company's share price has been increasing. This can lead people to assume the growth will continue in the future, further lifting demand and prices.

In Apple's case, the market capitalization of the company remained largely unchanged at $556 billion after the stock split. However, the outstanding shares increased from 861 million to 6 billion shares.

Stock splits can be good for investors because they make a stock's price more affordable, allowing some investors who were priced out before to buy the stock now.

The reduced price attracts investors who found the pre-split price too high, increasing demand and the stock price.

For current holders, a stock split can be beneficial as it allows them to hold more shares of the company without any change in value.

Existing shareholders may not notice any changes after a stock split, but it can make their portfolio management easier and offer more liquidity.

A stock split can also make it easier for investors to buy more shares, which can be a psychological boost and make the stock seem more attractive.

Companies split shares to increase liquidity and accessibility, making it more attractive to a broader investor base.

By reducing the capital layout per share, investors now feel the shares are within their means, making them more likely to invest.

A lower share price can create a perception of affordability and growth potential, attracting new investors and potentially driving up the stock price in the long term.

Some companies, like Alphabet, have gone for almost eight years with no split, but still managed to see their share price rise before announcing a split.

Investors like Warren Buffett have been vocal about the folly of splits, stating that his company, Berkshire Hathaway, will never split.

Companies may also engineer a reverse split to keep the share price above a set value, such as $1, to avoid being delisted from their exchange.

Stock splits can be a bit tricky for short sellers, but they don't affect the value of their short position in a material way. The biggest change is the number of shares shorted and the price per share.

A two-for-one split means the number of shares in the market doubles, and the shares traded at a lower price. For example, if a stock was trading at $20 before the split, it would trade at $10 after the split.

The short investor will owe twice as many shares to the lender after the split, but the value of the short position remains the same. If the short investor closes the position right after the split, they'll buy 200 shares in the market for $10 and return them to the lender.

In the example, the short investor made a profit of $500, which is the difference between the money received at the short sale and the cost of closing out the short position.

Stock splits don't affect short sellers in a material way. However, there are some changes that can impact the short position.

The biggest change that happens is the number of shares shorted and the price per share. This is because the short investor owes shares to the lender, and the number of shares doubles after a split.

For example, if an investor shorts 100 shares of XYZ Corp. at $25, they will owe 100 shares to the lender. After a two-for-one split, they will owe 200 shares.

The value of the shares also splits, so if the shares were trading at $20 at the time of the split, they will trade at $10 after the split. This means the short investor will have to buy 200 shares in the market for $10 to close the position.

The short investor will have made a profit of $500 if they close the position right after the split. This is because they received $2,500 from the short sale, minus the cost of closing out the short position, which was $2,000.

A stock split can have a significant impact on futures and options contracts, but the good news is that the investment or contract value remains unchanged after adjustment.

To determine the revised futures/strike price, you simply divide the old futures/strike price by the adjustment factor, which is calculated as the ratio of the split (e.g., 5:1).

The adjustment factor is used to compute the revised market lot by multiplying the old market lot with the adjustment factor.

For example, if a stock split occurs in the ratio of 10:1, the adjustment factor is 10.

To illustrate this, let's take a look at the example of TATA Steel, which opted for a stock split in the ratio of 10:1 in July 2022.

After adjustment, the details of the futures and options contracts are as follows:

As you can see, the strike price remains the same, but the market lot has been adjusted accordingly.

Stock splits can have some not-so-great effects on the market. Stock splits increase the demand for a stock by making it more affordable, but this can also make it more attractive to short sellers, who are essentially betting against the stock's value.

Short sellers may face increased losses due to the increased demand for the stock. This is because the higher demand can drive up the stock's price, making it more difficult for short sellers to cover their positions.

The increased demand caused by stock splits can also lead to a temporary surge in trading volume, which can be a challenge for short sellers to navigate. This can result in higher losses for short sellers.

A stock split can significantly impact a company's long-term market capitalization.

Companies like Apple and Microsoft have experienced substantial market cap growth after their stock splits.

In 2014, Apple's market cap increased by 25% after a 7-for-1 split, reaching $700 billion.

Similarly, Microsoft's market cap rose by 15% in 2003 after a 2-for-1 split, reaching $250 billion.

This growth can make a company's stock more attractive to investors, potentially leading to further market capitalization gains.

A stock split can be a bit confusing, but let's break it down. A record date is set, and on this date, the company reviews its records to identify shareholders eligible for the split. This is when the company determines who gets the new shares.

The ex-split date marks when the stock begins trading at the newly adjusted split price. This is when the stock price will be reduced due to the increased number of outstanding shares.

Here are some key dates to keep in mind:

For example, if a company announces a 1:10 stock split, each existing share will be subdivided into ten shares. The share price will be adjusted accordingly, making the stock more affordable and increasing liquidity in the market.

Let's take a closer look at the example of stock splits and how they work. A stock split is a corporate action that increases the number of outstanding shares by issuing more shares to current shareholders.

In a 2-for-1 stock split, a shareholder receives an additional share for each share held, effectively doubling the number of shares outstanding. This means that if a company had 10 million shares outstanding before the split, it would have 20 million shares outstanding after a 2-for-1 split.

The share price is also affected by a stock split. After a split, the stock price will be reduced, proportionally to the increase in the number of shares outstanding. For example, in a 2-for-1 split, the share price will be halved.

Let's look at some examples. Suppose a company announces a stock split at a 1:10 ratio, where each existing share is subdivided into ten shares. The record date for this split was set for January 10, 2024. Before the stock split, the share price was approximately Rs. 25,000 per share.

The 1:10 stock split made the stock more affordable and increased liquidity in the market. The price per share adjusted to around Rs. 2,500 after the split.

Another example is a 1:5 stock split, where each existing share with a face value of Rs. 10 is subdivided into five shares with a face value of Rs. 2 each. The record date was set for May 20, 2024. Before the split, the share price was Rs. 500.

Following the split, the price per share would be approximately one-fifth of the pre-split price, making it Rs. 100 per share.

When reviewing the key dates for a stock split, it's essential to understand the process. The record date is when a company reviews its records to identify shareholders eligible for a stock split.

This date is crucial because it determines who will receive the new shares. Shareholders need to be aware of this date to ensure they're eligible for the split.

The ex-split date marks when the stock begins trading at the newly adjusted split price. This date is also important for investors, as it affects the price of the stock.

Here are the key dates to keep in mind:

Existing shareholders will receive sub-divided shares credited with the new ISIN on the trading day following the record date.