What are the usual pros and cons of a stock split?

Good question. Many investors own stocks that split and don't really understand what this means. So, on their behalf as well, I thank you for asking.

A stock split won't change your stake in a company, but it may (note I write "may") boost the stock's price.

WHAT IS A SPLIT?

A stock split is like receiving two $10 bills for a $20. It's really that simple. The company simply increases its number of outstanding shares. There is no change in your equity. In other words, you now have two pieces of paper but your $20 is still only worth $20.

Splits come in many shapes and sizes. They can be 2-for-1, 3-for-1, even a reverse split, such as 1:4.

THE IMPACT OF A SPLIT

Keep these 5 points in mind, when you hear about an impending stock split:

1) INCREASED INVESTOR INTEREST

While the value of the money in your pocket has not changed, stock splits are a positive in that they stimulate investor interest. This, of course, is one of the reasons why management declares a split -- to increase the visibility of its shares in hopes that more people will buy the stock. With increased volume, on the buy side, the share price is likely to rise, although there's no guarantee that it will.

2) A HIGHER DIVIDEND

A split may also mean that the company will increase its cash dividend. A study done by the New York Stock Exchange a few years ago found that about 58% of the companies surveyed said they increased their cash dividends at or around the time of their stock split.

3) A LOWER PRICE

Splits almost always bring a stock down into a more popular trading range because the split decreases the price per share. Management realizes that an extremely high price does not go over well with many small individual investors and that psychologically, these investors are apt to shy away from buying 100 shares of an $80 stock but are less hesitant to buy 200 shares at $40/share.

4) BUY BEFORE OR AFTER A SPLIT?

This is a very common question and over the years there have been a number of studies on the topic with the results supporting both sides of the issue. These two survey findings, however, appear to be sound:

In 97% of the cases studied, the stock increased on average 5.2% the day the split was announced.

For six months after the split, 75% of the stocks split outperformed the Dow. But in all fairness, this study did not address the issue of whether the stock split caused the rise in price or something else did, such as increased earnings.

So, it appears that the best time to own a splitting stock is prior to or immediately after the announcement.

5) INCREASED FUTURE EARNINGS

One conclusion we can draw fairly conclusively is that when management decides to split its stock it's because the stock has moved up in price over time and the company feels pretty confident that future earnings growth will continue.

WHAT TO DO

If a stock you own declares a split and your shares are held here at BUYandHOLD, the additional shares will show up on your account statement.

CAUTION: The mirror image of the stock split is the reverse split, generally a negative event. You'll find all the pros and cons of reverse splits discussed in one of my previous columns.

FOR MORE INFORMATION

I urge you to log on to: http://www.stocksplits.net/ Here you'll find these specific details about both recent and forthcoming splits:

The symbol

Type of split (2:1 or 3:4, etc.)

Announcement date

The ex-dividend date

The number of prior splits

Price the month prior to the announcement date

Price at the announcement date

The pay date price

(Pay date is the last day before the split is reflected. Ex-dividend or ex-date is the first day the stock trades reflecting the split.)

The experts at StockSplits.net also spell out an investment program based on stock splits. I'm neither recommending nor not recommending it, but it is interesting. They also note that based on their statistics, "as stocks approach their split day, investors get really interested. The price rises into the split and drops shortly after the split."

All things being equal a stock split doesn't really mean anything. If you have 100 shares of ABC at $150 a share, you get 200 shares at $75 a share the day it splits.

That having been said, splits are generally viewed as a good sign. Because it reduces the price per share, it is believe to allow retail (Main Street) investors the opportunity to get in on a stock. In the example above, for Joe Investor to buy 100 shares he would have to pony up $15,000 before the split and $7,500 after the split. If his account is around $50,000 the second is a lot more affordable.

I suspect that there has been scholarly research done into the affect of stock splits on share price, compared to the general market, but I don't know of any off the top of my head.

Yes you can buy shares before or after the split.

Yes you can still buy shares. Basically all this means is that the value of the stock is growing and to attract more investors the company is deciding to divide it's stock. If 100 shares of a $10 stock split it would be 200 shares at $5. So it is really the same worth, same goes with splitting up, 100 shares becomes 50 shares and $10 becomes $20.

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