Beginner’s Guide to Reverse Stock Splits

Thu Aug 6, 2020, 05:34 pm | by Delaney | No comments

Reverse stock splits are a corporate action that affects stock prices and shares, but keep the market capitalization the same. There are many reasons for this action, and the opposite of another corporate action, stock splits. This blog will breakdown:

  • What is a reverse stock split?
  • Why companies issue reverse stock splits
  • Are reverse stock splits good?
  • An example of a reverse stock split
  • How to find reverse stock splits

What is a Reverse Stock Split? 

Similar to a stock split, a reverse stock split is the same thing, only reversed. Instead of creating more shares, they are consolidated into a smaller amount.

A stock split is divided by a number, such as 5, 20, or 40. It would then be called a 1-for-5, 1-for-10, or 1-for-40 reverse split. It does not have to be one of these exact numbers, it depends on the company and the reverse taking place. 

Holders who have a stake in a stock that has a reverse split will have fewer shares but keeps the same value that they had previously. 

Why Do Companies Issue Reverse Stock Splits 

There are several reasons why a company may issue a reverse stock split. 

Companies often issue reverse stock splits to avoid getting delisted. Many of the major exchanges have a minimum price to trade, and if a stock’s price is consistently below that price, it can be delisted. Issuing a reverse stock split can help avoid this by increasing the stock price. 

Another reason is to boost the image of the stock, though that likely isn’t the only reason why a company issues a split. Low-priced stocks are often looked down upon, so if a reverse stock split works and prices stay at a higher level, it could have potential benefits to the perception of the company. 

Additionally, some institutional investors and mutual funds have strict requirements on what stocks can be included. A higher price increases chances of being included in a portfolio like this. 

Are Reverse Stock Splits Good?  

It depends. Reverse stock splits can be good for a company because it allows them to stay on the major exchange and not get delisted. However, it is usually a sign of “a company in distress,” according to Investopedia. This is because while the value of the company does not change, it only raises the price of low shares by reducing the number of shares available. 

There is a negative connotation when it comes to reverse stock splits, and companies may see an increase in the selling of shares. Shareholders usually view the action has a company trying to inflate prices. 

Reverse Stock Split Example

Company ABC has 20 million shares at $2 per share. The company wants the share price to increase, especially because they are getting close to a price that may delist them. The corporate management decided to issue a 1-for-10 stock split. This means 10 shares will merge into one share. In this example, this action will bring their shares down to 2 million with a new price of $20 per share. 

The company’s value did not change due to this action. While the price is higher, outstanding shares are smaller. The market capitalization did not change after the reverse stock split. 

Before the Split: 20 million x $2 = $40 million 

After the Split: 2 million x 20 = $40 million 

How to Find in Benzinga Pro 

It’s really easy to find stock splits in Benzinga Pro. All you have to do is open up the Calendar tool and select the splits calendar. This Calendar will show you the splits that have happened or planned over the selected period of time. 

You will see both stock splits and reverse stock splits. Click the column “reverse ratio” to sort and have reverse splits show up at the top. 

Screenshot of the Splits Calendar in Benzinga Pro

Final Thoughts

While reverse stock splits don’t affect the stock’s market capitalization, it’s a way for a company to have a higher stock price. This can be for a variety of reasons, but it often comes with a negative connotation.

If you’re looking to keep track of stock splits, start your free trial of Benzinga Pro to check out the splits Calendar and all the other tools available on the platform.

Disclaimer: Benzinga is a news organization and does not provide financial advice and does not issue stock recommendations or offers to buy stock or sell any security. Benzinga Pro is for informational purposes and should not be viewed as recommendations. Benzinga Pro will never tell you whether to buy or sell a stock. It will only inform your trading decisions. You can find our full disclaimer located here.