Jason Zweig believes that shareholders who love stock splits are like 'Yogi Berra, who wanted his pizza cut into four slices because "I don't think I can eat eight." According to Zweig, companies that 'split their stocks treat their investors like dolts'.
However, there are two sides or the story here. Some research suggests that investors can beat the market by investing in companies that split their stock. So are stock splits good or bad for shareholders?
What is a Stock Split?
A stock split is a corporate action whereby a company divides its existing shares into multiple shares. For example, a 2-for-1 split means that the stockholder will have two shares for every share held previously. This excites some investors. Back in 1999, Exodus Communication underwent three 2-for-1 splits in one year, prompting one shareholder to proclaim that "I'm going to hold these shares until I'm 80, [because] after it splits hundreds of times over the next years, I'll be close to becoming CEO."
This investor missed the point. The number of shares he held did increase, but the price of each individual share declined. Indeed, a 2-for-1 split would cause the number of shares to double, but the share price would halve. All other things being equal, the market capitalisation of the company would remain the same. A pizza actually serves as a useful analogy here. You can split one pizza into as many slices as you like, but at the end of the day you would still have just one pizza.
Apple Inc: 7-for-1 split - June 9 2014
Lets use Apple as an example. Apple underwent a 7-for-1 split stock split in June 2014. Before the split, the firm traded for more than $650 per share. The price reduced to $93.70 as a result of the split and the number of shares outstanding increased sevenfold.
If you owned ten shares in Apple before the split, your position would have been worth around $6500 both before and after the split. This is because each share became worth one-seventh of the pre-split price, but shareholders would have seven times as many shares.
Why do Stock Splits take place?
A stock split usually takes places when…
