Reverse Stock Split

AAA

DEFINITION of 'Reverse Stock Split'

A corporate action in which a company reduces the total number of its outstanding shares. A reverse stock split involves the company dividing its current shares by a number such as 5 or 10, which would be called a 1-for-5 or 1-for-10 split, respectively. A reverse stock split is the opposite of a conventional (forward) stock split, which increases the number of shares outstanding. Similar to a forward stock split, the reverse split does not add any real value to the company. But since the motivation for a reverse split is very different from that for a forward split, the stock’s price moves after a reverse and forward split may be quite divergent. A reverse stock split is also known as a stock consolidation or share rollback.

INVESTOPEDIA EXPLAINS 'Reverse Stock Split'

If a company has 200 million shares outstanding and the shares are trading at 20 cents each, a 1-for-10 reverse split would reduce the number of shares to 20 million, while the shares should trade at about $2. Note that the company’s market capitalization pre-split and post-split should – theoretically at least – be unchanged at $40 million.

But in the real world, a stock that has undergone a reverse split may well come under renewed selling pressure. In the above instance, if the stock declines to a price of $1.80 after the reverse split, the company’s market cap would now be $36 million. Conversely, with a forward split, the stock may gain post-split because it is perceived as a success and its lower price might attract more investors.

In the vast majority of cases, a reverse split is undertaken to fulfill exchange listing requirements. An exchange generally specifies a minimum bid price for a stock to be listed. If the stock falls below this bid price, it risks being delisted. Exchanges temporarily suspend this minimum price requirement during uncertain times; for example, the NYSE and Nasdaq suspended the minimum $1 price requirement for stocks listed during the 2008-09 bear market. However, during normal business times, a company whose stock price has declined precipitously over the years may have little choice but to undergo a reverse stock split to maintain its exchange listing.

A secondary benefit of a reverse split is that by reducing the shares outstanding and share float, the stock becomes harder to borrow, making it difficult for short sellers to short the stock. The limited liquidity may also widen the bid-ask spread, which in turn deters trading and short selling.

The ratios associated with reverse splits are typically higher than those for forward splits, with some splits done on a 1-for-10, 1-for-50 or even 1-for-100 basis.

VIDEO

Loading the player...
RELATED TERMS
  1. Stock Split

    A corporate action in which a company divides its existing shares ...
  2. Outstanding Shares

    A company's stock currently held by all its shareholders, including ...
  3. Reverse/Forward Stock Split

    A stock split strategy that includes the use of a reverse stock ...
  4. Corporate Action

    Any event that brings material change to a company and affects ...
  5. Split-Up

    A corporate action in which a single company splits into two ...
  6. Split-Off

    A means of reorganizing an existing corporate structure in which ...
RELATED FAQS
  1. Are over-the-counter stocks different from other stocks?

    As of 2015, premiere stock exchanges, such as the New York Stock Exchange (NYSE) and the Nasdaq, have stringent listing requirements, ... Read Full Answer >>
  2. What happens to a stop order after a stock splits?

    A stop order, commonly referred to as a stop-loss order, is an order placed with a broker to sell a security when it reaches ... Read Full Answer >>
  3. I own options on a stock, and it's just announced a split. What happens to my options?

    When the underlying stock of your option splits or even begins issuing a stock dividend, the contract undergoes an adjustment ... Read Full Answer >>
  4. What is a stock split? Why do stocks split?

    All publicly-traded companies have a set number of shares that are outstanding on the stock market. A stock split is a decision ... Read Full Answer >>
  5. How long does a stock that has done a reverse split keep the letter "D" at the end ...

    A reverse split is a corporate action whereby a company reduces the number of shares outstanding and increases the price ... Read Full Answer >>
  6. What are reverse stock splits?

    A reverse stock split is a corporate action in which a company reduces the number of shares it has outstanding by a set multiple. ... Read Full Answer >>
  7. What is a split-adjusted share price?

    If a company has undergone stock splits over its lifetime, comparing historical stock prices to those of the present day ... Read Full Answer >>
Related Articles
  1. Investing Basics

    Understanding Stock Splits

    We explain what they are, the thinking behind them as well as their results.
  2. Investing Basics

    How To Profit From Stock Splits And Buybacks

    If stock splits and buybacks have been a bit of a mystery to you, you're not alone. Learn some great tips.
  3. Bonds & Fixed Income

    What Are Corporate Actions?

    Be a savvy investor - learn how corporate actions affect you as a shareholder.
  4. Economics

    America's Most Notorious Corporate Criminals

    Learn about the crimes and punishments of some of the most infamous convicted white-collar crooks.
  5. Investing

    Corporate Governance

    Corporate governance refers to the formally established guidelines that determine how a company is run. The company’s board of directors approves and periodically reviews the guidelines, which ...
  6. Investing Basics

    Enterprise Resource Planning System: A How To

    An ERP system won’t transform poor management into good management, but the real-time business analytics can help make good management even better.
  7. Investing Basics

    How To Calculate Goodwill

    Goodwill is an intangible, but it is still possible to effectively calculate or estimate goodwill for a company.
  8. Investing Basics

    Using Appreciative Inquiry To Solve Management Problems

    In its purest form, appreciative inquiry is a powerful tool for shifting the focus of an organization to something much greater than its bottom line - although the eventual outcome will often ...
  9. Investing Basics

    The Basics Of Value Chain Analysis

    Value chain analysis establishes an action plan to understand and implement actvities that create values to a firm's clients, resulting in firm profits.
  10. Investing Basics

    Top Tools for ERP Enterprise Resource Planning

    Top tools used in Enterprise Resource Planning with its characteristics - Explaining the main tools companies use when using Enterprise Resource Planning appraoch

You May Also Like

Hot Definitions
  1. Risk Averse

    A description of an investor who, when faced with two investments with a similar expected return (but different risks), will ...
  2. Fixed-Charge Coverage Ratio

    A ratio that indicates a firm's ability to satisfy fixed financing expenses, such as interest and leases. It is calculated ...
  3. Efficiency Ratio

    Ratios that are typically used to analyze how well a company uses its assets and liabilities internally. Efficiency Ratios ...
  4. Fixed Cost

    A cost that does not change with an increase or decrease in the amount of goods or services produced. Fixed costs are expenses ...
  5. Subsidy

    A benefit given by the government to groups or individuals usually in the form of a cash payment or tax reduction. The subsidy ...
  6. Sunk Cost

    A cost that has already been incurred and thus cannot be recovered. A sunk cost differs from other, future costs that a business ...
Trading Center