At the suggestion of TMFDj111, I'm bringing this question from the Ask a Foolish Question Board over here. Here's the link to that thread:http://boards.fool.com/Message.asp?mid=20756327The gist of it is I'm trying to understand the advantage to a company of a stock split. I understand that from a dollars and cents perspective, there's no change to the value after a split (until the stock price starts moving up or down). A dime or two nickels as David Jacobs puts it.So outside of the psychological effect a couple of people mentioned (hey, that stock is doing so well it just split), and the lowering of the barrier of entry, is there another benefit to the company by having more shares outstanding or, potentially, more shareholders? And I'm new to the Collective. Hi all.-Tim
Hi,Unfortunatly, I really can only speculate so hopefully others will answer. But, welcome to you anyway.Buffy (who thinks the greatest benefit would be that they have more #'s of shares to option out...)
Hi Tim,Welcome.Stock splits are expensive and essentially financially meaningless events. That being said, there are some 'soft side' benefits to companies that lead many of them to split.Here are some of those 'soft side' benefits:1) Better Liquidity. Take Berkshire Hathaway. Here's a chart of BRK.A over the past ten years: http://tinyurl.com/3dvth . Notice how there are often less than 1000 shares trading hands in any given day. Contrast that with Lucent. Here's a chart of LU over the past ten years: http://tinyurl.com/yr8af . Notice how there are about 50,000,000 shares trading hands in any given day. The lower per share price helps assure that the market remains liquid enough to keep shares trading. The big danger in having an illiquid stock is the fact that the less liquid the stock is, the more open that stock is to potential market manipulation through domination by one or two big traders.2) More 'small investor' friendly. If I were to buy a single share of Berkshire Hathaway (BRK.A), it would instantly become my largest holding and would represent a very large fraction of my overall portfolio. And in order to afford that one share, I would have to sell many of my other existing holdings. Conversely, I bought better than a dozen shares of Johnson and Johnson (JNJ) last month as part of my monthly investment cycle. Regardless of whether or not Berkshire Hathaway represents a decent value at its current price, I (and many other small investors) simply cannot reasonably afford the $85,000 price tag to get in the door.3) Positive PR. When my employer announced its stock split earlier this year, there were several hundred items written about the split. See this page of google search results: http://tinyurl.com/3x7lu for 800+ of them. the first page of that google search included this Fool article: http://tinyurl.com/227jv , so even the Fool mentioned the stock split.4) Strong 'outlook going forward' signal from management. The major exchanges have minimum share price requirements for companies to be listed. Often, weak companies will do a reverse split to avoid being delisted. A reverse split is generally viewed as a really bad sign, because it means management doesn't think the stock price deserves to be high enough to maintain the company's listing. Conversely, a forward split puts a company more at risk for being delisted, since the price per share goes down in line with the split ratio. So a company that splits is sending the message that it expects its stock to remain strong, since a lower priced stock (an effect of a split) is more at risk of getting delisted.Yes. Financially speaking, stock splits are meaningless and expensive events. They do, however, come with 'soft side' benefits that companies' managements often find useful.Hope this helps.-Chuck
So outside of the psychological effect a couple of people mentioned (hey, that stock is doing so well it just split), and the lowering of the barrier of entry, is there another benefit to the company by having more shares outstanding or, potentially, more shareholders? If it reverse splits it can potentially get listed on NASDAQ if it had been delisted earlier- this is a huge gain for the company because it raises the number of potential buyers.If the stock price goes too high, some people will be unwilling to purchase shares. It makes it difficult for smaller investors to reasonably hold shares. Lets say shares cost $250 bucks each. Now a small investor wants to purchase $500 bucks. He buys 2 shares. What if in a year he wants to take away 10%? he can't, he is tied up. So a lower stock price does seem to increase liquidity among very small investors. Increasing liquidity does help a company. If a stock has more buyers, it has more demand, and is likely to be held up longer. The higher the stock price, the better it is for the company- the stock price effectively declares the rate of return on capital they are paying when they issue new shares.If they are considering taking on debt, or issuing more shares, they are going to have an easier time raising the capital in the equity market if the share price is high. A higher share price is equal to reduced cost of borrowing, making it easier for them to expand. Thus, splits offer the real return of reduced cost of borrowing, and a company wishing to raise capital would be wise to pump up its stock price with any mechanism available. It is like getting a loan at a better rate of interest- would you take the 4% loan, or the 6% loan?
So outside of the psychological effect a couple of people mentioned (hey, that stock is doing so well it just split), and the lowering of the barrier of entry, is there another benefit to the company by having more shares outstanding or, potentially, more shareholders?It took me a while to find it, but you might find this TMF FAQ article interesting:http://www.fool.com/foolfaq/foolfaq0035.htmAnd this link to an "Our Take" article:http://www.fool.com/News/mft/2004/mft04042020.htmFinally, TMF has a Stock Splits discussion board:http://boards.fool.com/messages.asp?id=1030057000000000David JacobsTMFDj111
Hi Tim-Let me give my treatise on stock splits. In this day and age splits are the next best thing to meaningless. But they come from a very rational background.In the US the target share price for most companies tends to be in the $10 - 100 range. Below 10 and some institutions can't buy the shares, above 100, managements start looking at splitting. This isn't true in all countries -- in Hong Kong the target per share runs from $1 to no more than US$10. Someone defining penny stocks stringently as having a share price less than US$5 in Hong Kong would find the pickings extremely slim. This again is just a cultural preference, but it has a basis in practicality.There are two competing forces here -- liquidity and transactability. That's where the splits come in.We may not remember it now, but there used to be a benefit for trading in round lots, share groupings of 100. You paid higher broking fees for odd-lot (sub-100 share) trades. (Just to understand the Hong Kong situation better, there a round lot is 1000 shares). So companies wanted to ensure that their shares were purchasable by a reasonable portion of the market in round lot intervals -- i.e. no more than $10,000. Thus companies exceeding $100 would split.Even though there no longer is a penalty for odd-lot trades, the tendency in American commerce was set. On the bottom end there's this $10 floor. Some institutions still cannot own stocks that trade below $10. I always thought this was arbitrary, but as it turns out, these low-dollar splits also have a real net negative. Institutional and block trade investors can't just fire up the old Fidelity account and move 500,000 shares of stock. They go through prime brokers, who charge them not on the value of the trade nor on a flat percentage, but on a cost per share, So, at $0.027 per share to trade, which would you rather have, 500,000 $18 shares, or 1,000,000 $9 shares. That's a difference of $13500 for the exact same economic transaction. Not big scratch to an institutional broker, but as Father Guido Sarducci says: "it could add up."So there's your answer -- it's an historic preference, one that once made some sense. Now that round lots aren't sold at a discount, doesn't make much at all, and is even a net negative in some respects. Still, people tend to have a hard time buying 5 Washington Post shares with their $4000 when they could get 400 shares of a company trading at $10. Old habits die hard.Hope this helps.Bill Mann
I'll point out a big negative with the stock splits... it screws up my Fool Portfolio tracking and any various spreadsheets I use.Grrr...~dinoczarhatin' the split-adjustin'
Howdy....I agree that $ 100 stocks should probably split for liquidity reasons as mentioned.However, it is not only large investors who are penalized by having to pay "per share" transaction fees. It is worse, by an incredible amount, for a small investor trading in lower priced stocks.For example what is the point of a company having 200mm shares trading at $ 2.00? Consolidation on a 1:4 basis would still leave plenty of liquidity.Unfortunately, companies depend upon brokerage houses to encourage trading in their stock and to market new issues. They don't do it only because those same brokerage houses would make less money and "frown".Wayne
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