Six Things You Should Know About Stock SplitsSubmitted by MIRUS Financial Partners on February 16th, 2023
When a stock splits, a company increases the number of outstanding shares by dividing each existing share into multiple shares. This can make the company's shares more affordable to investors and increase liquidity by creating more shares available for trading.
But what else do you need to know about stock splits? Here are six key facts to keep in mind.
1. A Stock Split Can Make Shares More Affordable
By increasing the number of shares outstanding, a stock split can reduce the price per share, making it more affordable for investors to buy in. For example, if a company's stock price has risen to a very high level, such as $1,000 per share, it can be difficult for some investors to purchase even a single share due to the high cost. A stock split can lower the price per share, making it more accessible for investors with smaller budgets.
Furthermore, stock splits can also help increase the liquidity of a company's shares, making it easier for more investors to buy and sell the stock. This increased liquidity can attract more investors, increasing demand for the stock and potentially driving its price.
2. Stock Splits Usually Benefit Existing Investors
Existing shareholders can benefit from a stock split because they will own more shares after the split, while the total value of their investment will remain the same. For example, if a shareholder owns 100 shares of a company's stock before a 2-for-1 stock split, they will own 200 shares after the split, but the total value of their investment would remain the same. In addition, this increase in the number of shares can make the investment more divisible and liquid, making it easier for shareholders to sell their shares if they choose to do so.
For example, in May 2021, chipmaker Nvidia (NVDA) announced it was splitting its stock 4-for-1. According to Kiplinger.com, "Shares rallied 20% between the date of the announcement and July 19, the date the actual split occurred."
3. Stock Splits Have no Tangible Impact on a Company’s Total Value
A stock split is essentially a cosmetic change to a company's capital structure. It does not directly impact the company's underlying fundamentals or the total value of an investor's portfolio holding. While a stock split can make the stock more accessible and potentially attract more interest, it doesn't change the company's intrinsic value or the overall value of an investor's holdings.
4. Stock Splits Are Not Easy to Do
While a stock split may seem like a simple process of increasing the number of shares outstanding and decreasing the price per share, it requires careful planning and strict adherence to regulatory rules.
The company needs to complete several steps associated with due diligence before a stock split can occur, including obtaining the necessary approvals from its board of directors and shareholders, filing the appropriate paperwork with regulatory bodies such as the Securities and Exchange Commission (SEC), and coordinating with its transfer agent and exchange listing venue to ensure that the stock split is executed correctly.
When Google's parent company, Alphabet (GOOGL), wanted to issue a 20-for-1 split, it took almost a year of planning. Although they announced the split in February 2022, it wouldn't take effect until July 15 of the same year. The last time Alphabet split stock was in 2014.
5. Stock Splits Are Not a Taxable Event
You won't be taxed on a split. However, an investor’s cost basis in a stock should be adjusted to reflect a split. For example, after a 2-for-1 stock split, the cost basis of each share owned after the split will be half of what it was before the split.
According to the IRS, "You don't report income until you sell the stock. Your overall basis doesn't change as a result of a stock split, but your per share basis changes."
6. Mutual Funds Can Also Split
Mutual funds can indeed split their shares, just like individual companies can. However, it is less common for mutual funds to split their shares compared to individual companies.
When a mutual fund splits its shares, the number of shares increases while the value of each share decreases proportionally. As a result, the total value of the investment remains the same, but the number of shares held by the investor increases.
Mutual fund investors can benefit from individual stock splits if a mutual fund holds shares in a company that decides to split its shares. In these cases, the mutual fund's share value will increase accordingly.
For instance, in March of 2021, Vanguard announced, "The Vanguard Russell 1000 Value ETF (VONV) and Vanguard Russell 2000 ETF (VTWO) have declared a two-for-one share split, and Vanguard Russell 1000 Growth ETF (VONG) has declared a four-for-one share split." Vanguard reported that these splits were based on ETF market prices, bid-ask spreads, and trading volumes.
Want to Learn More?
If you're interested in stock splits, investing, or mutual funds, let's discuss how they might work with your financial goals. Contact Mark Vergenes to set up an appointment today.