Reverse Stock Split

Reverse stock split is when a company takes corporate action to consolidate the number of already existing shares.

A higher share price can improve the perception of a company’s stock. Low-priced stocks are often associated with poor performance or higher risk, which can deter potential investors. In this kind of situation there is a psychological effect that enhances the perceived value of the shares, making them more attractive to investors and analysts.

Reverse stock splits are one type of corporate action companies can take to restructure their finances, but they differ from other measures in a key way. Let’s get into details of how a reverse split can attract investors, increase the number of shareholders, and improve the company’s financial ratios.

What is Reverse Stock Split?

A reverse stock split is when a company takes corporate action to consolidate the number of existing shares. This reduces the number of shares and makes it more valuable. There are various reasons a business decides to reduce the number of existing shares, but it often indicates distress in the business.

In a reverse stock split, the number of existing shares is divided by a number like 4 or 6. This is called a reverse split, such as 1 for 4 or 2 for 6. When a stock is divided into a lesser number, it is also called stock merge, stock consolidation, or even share rollback. A reverse stock split is the opposite of a stock split.

After years of poor performance, General Electric performed a 1-for-8 reverse split in 2021 to improve its share price. Similarly, AT&T executed a 1-for-5 reverse split in 2002 to manage its stock price amidst significant corporate restructuring.

Reasons for a Reverse Stock Split?

There are few reasons why companies may choose to execute a reverse stock split:

  • Many exchanges have rules requiring stocks to trade above a certain price, often $1, to maintain their listing. A reverse price can boost the share price to avoid delisting.
  • Some institutional investors and mutual funds have policies against purchasing stocks below a certain price, as a higher share price may be more attractive to these investors.
  • If a company completes a reverse split, shareholders holding fewer than the required minimum number of shares will receive a cash payment instead of fractional shares, reducing the number of shareholders.
  • When a company’s share price is very low, there may be a stigma that it’s a struggling or unproven company. A reverse split can increase the cost to change this perception.
  • In some cases, it may be implemented to support a stock that has significantly lost value, thereby extending its life.

Facilitate Future actions with Reverse Stock Split

A business might choose to take significant actions that will affect its capital structure at the corporate level. The market situations and developments influence these decisions. A reverse stock split is one of them; the company merges shares to create more valuable proportional shares. The price per share increases after the reverse stock split; this is so because the company is not creating value by reducing the number of shares.

Reverse stock split to Improve Financial Ratios

The main reason that businesses opt to do this is that doing so raises the price per share. The reverse stock split can be as high as 1 for 100 or as low as 1 for 2. This does not have an impact on the value of the business, even though this might cause a drop in the value of the stock. For a company to opt to conduct a reverse stock split, they need to get the shareholder’s consent through voting.

Streamline the entire process of managing a reverse stock split with Eqvista!

Eqvista streamlines the entire process of managing a reverse stock split, from share issuance and cap table management to automated calculations and shareholder communication, making it a valuable tool for companies navigating this complex corporate action.

Eqvista also offers 409A valuation services, which can be important for companies planning a reverse stock split. Accurate valuations ensure compliance with IRS regulations and provide a clear understanding of the company’s worth, which can be affected by changes in the share structure. Contact us to know more about our service.

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