Stock split means the company wants to lower its share price by splitting its existing shares of stock into smaller or less valuable shares. It’s a corporate action for making a stock more attainable to smaller investors.
After the stock split, the company’s total number of outstanding shares increases and the stock price of a single share decreases. The total value of their shares at the new stock’s price will remain the same. This means, a stock split doesn’t make investors rich.
Existing shareholders will get more shares with a lower market value per individual share.
In other words, a stock split lowers the company’s market price per share without changing the overall valuation of the company.
The board of directors of the company decides the split ratio.
If the board of directors decide to go for a 2-for-1 split ratio, then it means each individual share of the stock is split into two shares.
A 3-for-1 stock split ratio, means for every share of stock you owned before the split, you have three afterward. If, for example, you owned one share of Rs 300 stock before the split, you own three shares valued at Rs 100 each after.
Here is an example to illustrate the impact of 1:2 Stock split.
| Stock Split ratio | 1:2 |
| Old face value of the share | Rs. 10 |
| Number of shares you own before the split | 100 |
| Market share price before the split | Rs. 900 |
| Value of your investment before the split | Rs. 90,000 |
| New Face value after the split | Rs. 5 (10/2) |
| Number of shares your own after the split | 200 |
| Market share price after the stock split | Rs. 450 |
| Value of investment after the split | Rs. 90,000 (200*450) |
Why stock split
Here are the most common reasons why a company prefer to go for stock split;
- To increase liquidity: when stock price is lower, many market participants including retail investors find it easier to buy and sell in the market. When its easy to get in and out of the market, it is said to be liquid.
- To increase valuation: as more market participants start buying and selling the stock, the market cap rises.
- To make stock prices more affordable for investors: When the price of a stock gets higher and higher, some investors might think the price is too high for them to buy, while small retail investors may feel it is unaffordable. By splitting the stock, the company brings the price of the share to a more attractive level.
Recent big stock splits in the stock market;
- Amazon: 20-for-1
- Google’s Alphabet: 20-for-1
- Teslas: 5-for-1
The opposite of stock split is known as reverse split.
