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UNDERSTANDING A STOCK SPLIT

A Stock Split is a corporate action where the face value of the existing shares is reduced in a defined ratio. A stock split of 1:5 means split of an existing share into 5 shares. Accordingly, face value of shares will go down to 1/5th of the original face value. For example, if an investor holds 100 shares of a company with a face value of Rs.10 each, a stock split in the ratio of 1:5 will increase the number of shares held by him to 500 but the face value of each share will go down to Rs. 2. From the company’s perspective, there is no change in its share capital since an increase in the number of shares is offset by a fall in the face value and resultant multiplier of face value and outstanding no. Of shares remains the same.

Companies consider splitting their shares if prices of their shares in the secondary market are seen to be very high restricting the participation by investors. As price per share comes down post-split, share split leads to greater liquidity in the market.

Similar to bonus, split is also a book entry resulting in increased number of outstanding shares in the books of company with reduced face value without any economic benefit whatsoever to the shareholders. We may say that share split is also to influence the psychology of investors (of reduced market price per share) and to impact liquidity in the market place without any economic benefit to the shareholders. As the total number of shares go up without any economic change in the Profit and Loss statement or Balance Sheet, per share data (earning per share, book value per share, market price per share etc.) witnesses immediate deterioration. However, as shareholders’ proportionate ownership remains unchanged and number of shares held by them go up, at overall ownership level, there is no negative impact to the shareholders.

For example, SBI initiated a stock split of its equity shares from a face value of Rs.10 to Re.1. A shareholder holding 1 share of a face value of Rs.10 will now hold 10 shares each with a face value of Re.1. The stock that was trading in the markets at over Rs.2700 at the time of the announcement traded post-split at around Rs.295. The value of the shareholder’s holding was around Rs.2700 (1 share x Rs.2700) prior to the stock split. Post the split, the value of the holding is Rs. 2950 (10 shares x Rs.295). The market price after the split will depend upon the market forces of demand and supply.


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