Due to significant price increases, the shares of very popular companies often reach high three-digit or four-digit prices from time to time. However, so that no small investors are excluded, many corporations carry out stock splits in order to optically discount their own securities.
• A stock split can bring new momentum…
• …even if it’s just a psychological trick
• Cheaper stocks have a larger target group
A classic stock split is a corporate action in which the shares of a group are divided according to a set quota. For example, if a group divides its shares in a ratio of 1:5, the number of outstanding shares is quintupled, while the price per security is halved.
An example of a stock split
Before a stock split, the shareholders of a company must first vote on a possible stock split and the exchange ratio, usually at the general meeting. To carry out a stock split, a simple majority is sufficient.
If the securities to be allocated are par value shares, the old shares will be canceled and, provided the proposal is supported by the majority of shareholders new shares issued to shareholders with the same security identification number. However, if the shares are no-par shares without a par value, the division is carried out with the help of an amendment to the articles of association.
For example, if the shareholders agree on a share split at a ratio of 1:5, each shareholder will receive five new shares for one old share. If the underlying security cost 1,000 euros before the split, it is only 200 euros after the stock split. In addition, the number of available shares increases from, for example, one million to five million.
The main reason for a stock split
Through a stock split, existing shares are converted into a larger number of new shares with a lower value. Such a step immediately reduces the price per share. The respective share appears visually cheaper and is generally also easier to trade because the lower price appeals to a larger target group. Shares with a price of, for example, 10 euros are affordable for every class of investor, while shares with a price of 2,000 euros each require a certain amount of capital from the investor.
Many corporate managers simply want to outsmart the psyche of small investors with a stock split. Whether a share costs 10 or 2,000 euros says nothing about the quality of a company. Nevertheless, high share prices are very discouraging and unattractive for many small investors, which ultimately often leads to them preferring to buy visually cheap shares, regardless of the fundamental valuation of the company.
With the help of a stock split, company bosses attempt to give their own shares new impetus and in doing so they are making a calculated mistake in their thinking, which is particularly prevalent among many private investors.
The advantages for investors and companies
Stock splits typically have a large impact on the price performance of a security. The announcement of a split alone often triggers a short-term price rally. Accordingly, a stock split can pay off, especially for existing shareholders. Purely theoretically, it is still a zero-sum game.
However, it is not only the shareholders who benefit from rising share prices, but of course also the company. For a group, a stock split usually means fresh capital, as the visually cheaper share prices usually bring with them increased demand.
In contrast to a capital increase, which can also bring in fresh money, the existing shareholders are not diluted by a stock split, which, from the shareholders’ point of view, is also a very positive argument for a split.
The disadvantages for investors and companies
However, new investors who only become aware of a stock through an announced stock split should not invest their money solely based on this measure. Stock splits are often carried out when a company’s share prices have risen enormously over a long period of time or the shares have been in a sideways trend for some time. Since these two scenarios are by no means a reason to buy, new investors in particular should pay attention as a result of a stock split and not lose sight of the fundamental data.
As a rule, a stock split does not have any negative effects on a company, even if there is no reliable data on this. Because it is impossible to determine in retrospect how well or poorly a stock would have performed without a stock split. Nevertheless, there are some company bosses who expressly oppose stock splits.
Buffett still doesn’t believe in stock splits
The best-known opponent of a stock split is the American multi-billionaire and star investor Warren Buffett. Although he has nothing against the companies whose shares he owns carrying out a stock split, this is out of the question for him and his financial holding company Berkshire Hathaway. It is therefore hardly surprising that the Berkshire Hathaway A share is the most expensive share in the world with a price of well over a quarter of a million US dollars.
Although there have also been Berkshire Hathaway B shares since 1996, which have a current ratio of 1:1,500 of the ownership rights and 1:10,000 of the voting rights of the A shares, these were only issued to prevent that investment funds replicate the Buffett portfolio in order to offer it to small investors with high fees.
With the extremely high price for a Berkshire Hathaway B share, Buffett wants to prevent his company from being abused by smaller shareholders for short-term speculation. According to Buffett, the high share price is intended to protect the shareholders of the financial holding company from a speculative bubble and extreme volatility.
Tax and derivatives implications
According to the German Association for the Protection of Securities Ownership, a stock split does not result in any tax burden as long as the securities identification number remains identical. However, as soon as the WKN changes, the German tax authorities can classify the stock split as a type of dividend in kind. In this case, the existing shareholder would have to pay the withholding tax.
A stock split naturally has a direct impact on all certificates associated with the underlying asset. However, depending on the issuer, these derivatives are adjusted according to the splitting ratio. There is therefore no disadvantage for investors in this context either. Accordingly, you can always be happy, especially as an existing shareholder, when your own company announces a stock split.
Pierre Bonnet / editorial team finanzen.net