Imagine you have a $100 bill. A stock split is like exchanging that bill for two $50 bills. The total value stays the same, but the denomination changes, making it potentially more accessible to others.
What is a Stock Split?
A stock split is a corporate action where a company divides its existing shares into a larger number of lower-priced shares. The total value of the company (market capitalization) remains unchanged.
Example:
- A company has 10 million shares outstanding, each trading at $40 (Market Cap: $400 million).
- They announce a 2-for-1 stock split.
- After the split:
- The number of shares doubles to 20 million.
- The share price halves to $20.
- Market Cap remains $400 million (20 million shares * $20 per share).
Why Do Companies Do Stock Splits?
- Psychological Appeal: A lower share price can attract new investors, especially those who perceive high-priced stocks as less affordable.
- Increased Liquidity: More shares outstanding can make the stock more tradable, potentially increasing buying and selling activity.
Important Points:
- Stock splits are neither inherently good nor bad for investors. The company’s fundamentals remain unchanged.
- Investors don’t gain or lose money from the split itself. Their total investment value stays the same, divided among more shares.
Common Split Ratios:
- 2-for-1 split (e.g., one share becomes two)
- 3-for-1 split (e.g., one share becomes three)
Remember:
- Stock splits impact share price but not the company’s value.
- They can make a stock more psychologically appealing to some investors.
- They can increase trading activity due to higher share volume.