SP = TV  X  (IP + SM)

Or, True Value of the company  X   (Investor Perceptions + Speculator Motivations)

Claude N. Rosenberg, Stock Markets

Most companies keep their stock prices in the range of $14 to $160 to make the round lot, or the standard 100 share bundle, more routinely available to the largest number of potential buyers.  A partial round lot in broker terminology is called an "odd lot" and who would innately want something called an odd lot?  This terminology coupled with buying the "industry standard" quantity of a stock makes the round lot popular and comfortable for many investors.

The common cost to a small investor is thus about $1,400 to $16,000  --  a reasonable investment for many individuals.

Also the cost per share over about $14 tends to imply that the company is healthy financially and its stock is in demand.  Conversely, stocks below $10 are not eligible for many fund purchases and the aura of "going to zero" is psychologically imputed to a company's stock that is too cheap.

If a stock is much over the price of about $160, it is out of the common psychologically accepted price range most people accept.  Warren Buffet's main holding company, Berkshire Hathaway, has not split in years and therefore is today about $40,000, down from $81,000.  He chooses to differentiate his company in many ways and using its stock price serves that objective.

Definition:

A stock split is the division of each share into more than one new share.  When company management decides to split its stock, it must obtain approval from the board of directors.  Splits may be into any number of parts, but commonly are 2 for 1, 3 for 1, and 3 for 2.

Given all other factors remain constant, net results after a split include:

1.) The price is reduced to the fractional amount (1/2 in a 2 for 1 split, 1/3 in a 3 for 1 split, and 2/3 in a 3 for 2 split).

2.)  More shares will be outstanding (double in a 2 for 1 split, etc.)

3.)  The capitalization of the company is not changed.

Stock dividend:

Occasionally a company will issue a faction of a share to share holders.  For example, a 5% stock dividend will be announced and will result in shareholders receiving 5% of a share for each share they own.  This is actually a fractional stock split.

This is sometimes done in lieu of a cash dividend.   Actual stock issued to shareholders is often from a previous shelf offering and may not involve the issuance of new stock.  This will cause dilution of earnings and may result in a decrease in the stock's price depending upon investor acceptance.

Splitting as a stock growth tool:

As companies grow profitably investors usually find the stock more desirable and buy to hold.  This will tend to decrease the general supply of stock floating available for purchase and tends to cause the price to increase.   After a company's stock gets to a relatively high value, management and the board of directors may decide to split the stock as described above.

A stock may tend to rise 1.) in a bull market, and 2.) because the company is perceived as doing well.  A stock split may be appropriate and reasonable.  For example, when Company AAA's stock has risen to $150 per share it may announce a 3 for 1 split making the new shares' value $50 if nothing else changes between the announce date and the effective date. 

Over years, a company's success may result in several stock splits.  This is why you hear headlines like "100 shares of MSFT in 1986 are now worth $1.4 million today".  In this case MSFT's stock kept going up and management split it repetitively.  The split-adjusted original price may be in the range of $0.08 per share.  Or, if it had not split, the per share price would be $1.4 million.

Be aware that after multiple splits there may be 2 or 3 billion shares outstanding which can impact the price adversely in a down market and slow its price advance in an up market.

Also, the repetitive stock split provides currency for the company to pay employees in stock options and can help it hold employees without immediate cash (salary) payments.

Reverse stock splits:

Occasionally a company will reverse split its stock.   The new stock value is increased by exchanging multiple shares for one new share.   For example, if a company's stock is selling at $1.00,  20 old shares may be exchanged for 1 new share, making the new stock shares worth $20.  This somewhat rare occurrence is done to raise the price per share as when a stock has dropped and management wants to improve investor perception of the company by improving its stock price.   Note that nothing has improved on the company balance sheet, operations, marketing or other aspect directly because of this maneuver  --  only its per share stock price.

A Misconception:

There is a misconception about the meaning of a stock split.  The result of a stock split is that more individual investors can afford a round lot, or 100 shares, because each share costs less.  Capitalization, accounting relationships, company operations, marketing, etc. are not affected.  Since potentially more people can buy  --  and may hold  --  the stock should trend up in value if all other factors remain unchanged.

This idea that a split affects marketing or other aspects of a company is an example of a misconception that if wide-spread enough, can impact the price of a stock.

Watch what happens when a company announces a stock split and follow it through the split.  You may observe other factors also impacting the price.

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