Understanding on Stock Split Exercise

A stock split is common in nowadays stock market and some of the successful companies will exercise stock split multiple times throughout a decade. But, what does stock split means for the company and the shareholders? If you are holdings a stock which is going to split, don’t worry. We will discuss this topic for you to have a better understanding.

It is a corporate action declared by the board of the company with the purpose to increase their number of total share of a company by splitting each of the shares. When it happens, the share price drops proportionally due to the result that each of the shareholders will own more shares with the same proportion of ownership in the company.

How Does It Impact The Share Values?

Let us look at 1 of the example. If the company has 10,000,000 issued share priced at RM50 per share before share split, it will have a market capitalisation of RM 500,000,000 (10,000,000 x RM50). If the share split occurred at 2-for-1, the total company number of shares would double to 20,000,000 shares. The price for each of the share to be adjusted to RM25. (RM50,000,000 / 20,000,000). For example,  a shareholder with 1000 shares finally will have 2000 shares in total, but the value remains the same.

Based on the example above, it is also clearly indicated that there is no change in the total value of shares. The cost of a single stock will become cheaper, and only the total number of stock in the market will increase.

Why does Stock Split happen?

Stock splits occurred when the company management wishes to add liquidity of their stock by diluting it to reduce the cost per share to the reasonable price level. When the stock price has become less expensive, it may attract more new investors to invest in their company even though the underlying values of the company do not change.

Besides, a company that is practising a share split also can indicate a good signal that the company is doing well enough and investors will assume that the company will lead the share price to go higher in future.

Are Share Split Good For Investors?

When there is stock split occurred, it does not mean that the company will continue to do well in the future. The company split its stock when the share price has risen enough, but it does not indicate that the share price of a company will continue to grow in the future. Investors must always remember that when they owned more shares for the stock split, the overall value of their holdings will remain the same.

Some of the investors may say that stock split is a company doing well in their business and it may consider as a buy signal. It is not correct in this statement. Investors should always look at the whole picture of the company before making an investment decision. Investors can use stock split as an indicator, but further market evaluation is needed.

Should You Buy A Stock Before or After Stock Split?             

For the investors who will invest for long-term, it does not matter whether he/she buys the stock before or after the stock split. Let’s us look at scenarios as an example.  Let’s say I could purchase 1000 shares of a company which is trading at RM0.50 today, or I could purchase 2000 shares of the company at RM0.25 tomorrow after a split, the outcome will be identical. The only thing that can vary from the day before or after the split is the actual price of the shares.

Conclusion

Investors need to be methodical when they are trying to purchase the stocks before or after the split announcement. The stock split is a good thing for small investors who seek good company within their affordability. However, investors are not advisable to directly buy the shares before or after the split without doing further research.

Written by Stella Goh | 12th December 2018.

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Site last updated July 19, 2019 @ 6:38 am; This content last updated December 12, 2018 @ 7:42 am