Question

A stock split is a corporate action which splits the existing shares of a particular face value into smaller denominations so that the number of shares increases. Why do companies announce Stock Split?

Hint:

Remember: Companies announce stock splits primarily to increase liquidity by making shares affordable to more investors. While total value remains unchanged, splits signal management confidence and can attract retail investors through psychological appeal.

Answer 1

Step 1: Definition of Stock Split.
A stock split is a corporate action where a company divides its existing shares into multiple shares to increase the number of outstanding shares. The face value of each share is reduced proportionally, but the total market capitalization remains unchanged. For example, in a 2-for-1 stock split: Before split: 1 share of face value ₹10, market price ₹1000 After split: 2 shares of face value ₹5 each, market price ₹500 each Total value: 2 × ₹500 = ₹1000 (unchanged) 

Step 2: Reasons why companies announce Stock Split.
To Increase Liquidity: Lower share price makes shares more affordable to small investors Increased number of shares in circulation leads to higher trading volumes More buyers and sellers in the market improves liquidity Easier for retail investors to purchase in round lots To Make Shares More Affordable: High share prices may be out of reach for many retail investors After split, lower price per share attracts smaller investors Example: A stock at ₹50,000 per share may split to ₹5,000, making it accessible Broadens the investor base To Signal Confidence: Companies typically announce splits when share prices have risen significantly Signals management's confidence in future growth prospects Positive message to the market about company performance Often leads to positive market sentiment To Increase Shareholder Base: Lower price attracts new retail investors Wider distribution of shares among more investors Reduces concentration of holdings Better price discovery due to more participants Psychological Impact: Lower price appears "cheaper" to some investors (though value is same) Creates positive perception and buzz around the stock May attract attention from analysts and media Can lead to short-term price appreciation To Meet Exchange Requirements: Some stock exchanges have minimum price requirements for listing If price falls too low, split may be needed to adjust (reverse split) But for regular splits, this is not the primary reason To Improve Marketability: Options and derivatives may require specific price ranges Lower price may make stock eligible for certain indices or funds Easier for employees to exercise stock options at lower prices Historical Trend Following: Many successful companies (like Apple, Google, Amazon) have done multiple splits Following successful companies' practices Market expectation from growing companies 

Step 3: Important points about Stock Split.
No change in market capitalization: Total value remains same No change in shareholder wealth: Proportionate ownership unchanged No tax implications: Not a taxable event Face value reduction: Example: ₹10 face value becomes ₹5 or ₹2 Proportional adjustment: If you held 100 shares before split, you'll hold 200 after 2:1 split.

Step 4: Example of famous stock splits.

Apple Inc: Multiple splits - 2:1 in 1987, 2:1 in 2000, 7:1 in 2014, 4:1 in 2020 Reliance Industries: Split from ₹10 to ₹1 face value in 2009 Berkshire Hathaway: Class B shares split to make more affordable.

Step 5: Reverse Stock Split (for reference).
The opposite of stock split is reverse stock split, where multiple shares are consolidated into one share to increase share price (usually done when price has fallen too low to maintain listing requirements).