Stock Splits

          Companies use stock splits to adjust the price of a stock without really changing the real value of the stockholders’ holdings in the company. The majority of companies have stocks that trade in the $5 to $60 range. When the price of a stockrises over about $80, and especially whe the price of a stock gets over $100, it begins to look pricey to investors who cannot afford to buy the stock in 100-block units. Stocks may be bought and sold in almost any quantity, but 100-share (and larger) blocks are something of a traditional benchmark for stock trades. Stock splits give a company a way to manage the share price when the price gets too high or too low, without affecting the stock’s underlying value.

          Here’s how the typical stock split works. First, a company will announce the date they plan to do the stock split and the date on which you must own the stock to be eligible for the stock split. The typical stock split works on a simple ratio. A “2-for-1 split” is the most common, and it means that for every share of stock you own, you’ll receive one new share of stock. Likewise a 3-for-1 split means that for every share of stock you own in the company, you’ll end up with three after the split (the one share you had, plus the 2 new ones). An easy way to think of it is turning in your “old” shares of company stock and receiving the stated ratio back in ”new” shares.

          Once the new shares are issued in a stock split, almost like magic, the price of the stock adjusts on the market to reflect the split, since more shares of the company’s stock now exist.

          Stock splits can work in reverse as well in something called a “reverse split.” This typically happens when a company’s stock falls below $1. The company takes in many shares, returning fewer shares to the investor after the split. This is done in an effort to raise the per-share price. Reverse splits are generally seen as a sign of trouble, and many investors will bail out of a company’s stock when a reverse split is announced.

Examples:

• An investor owns 1,000 shares in a manufacturing company that has announced a 3-for-1 stock split. Once the split has taken place, how many shares of stock will the investor have?

          In a 3-for-1 stock split, one share owned becomes three shares after the split. So 1,000 shares will become 3,00 shares          after the split.

• An investor owns 80 shares of stock in an entertainment company that has announced a 3-for-2 stock split. Once the split has taken place, how many shares of stock will the investor have?

          In a 3-for-2 stock split, two shares owned become three shares after the split. So 80 shares will become 120 shares after the split.

• Miranda owns 44 shares of stock in a company that sells discount carpet. They have announced a 2-for-1 stock split. How many shares will she own after the split has taken place?

           In a 2-for-1 stock split, one share owned becomes two shares after the split. So 44 shares will become 88 after the split.

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