In 2024, the market has seen some interesting reverse stock splits. NRx Pharmaceuticals, Pagaya Technologies, New York Community Bancorp, and many other public companies underwent a reverse stock split. Usually, the main goals of a reverse stock split are to maintain appeal for existing investors and to manage longer market downturns. In this article, you’ll learn what a reverse stock split is, why companies choose to go this route, and whether it’s a good investment strategy.
What is a reverse stock split?
A reverse stock split happens when a company reduces the number of its shares while increasing the share price proportionally. For example, in a 1-for-10 reverse split, 10 shares become 1, and the price per share increases tenfold. So, if you had 100 shares at $1 each (worth a total of $100) of a particular company, after a 1-for-10 reverse split, you would own 10 shares, each worth $10, or $100 in total. While the number of shares would decrease, the value would remain the same.
On the other hand, there is a regular stock split, which is a common strategy for public companies to increase their liquidity and become more affordable to more investors. Unlike the reverse split, a forward stock split is seen as a sign that a company is doing well.
When and why do companies do a reverse stock split?
One of the main reasons for a reverse stock split is to avoid being delisted from an exchange. For example, NASDAQ has a minimum share price requirement of $1. When a public company is in a downturn, a reverse stock split can give it time to increase its value.
A higher price per share also looks more appealing to potential shareholders. A more expensive stock might seem more stable and profitable to some investors. A reverse split can also give a company more time and security before it undergoes a major merger or acquisition. Often, such events might cause investors to get nervous and start selling their shares. By doing a reverse split, the company preserves its listing and avoids a penny stock status.
However, not all reverse stock splits are negative. Often, it’s a strategic move that pushes the company forward. It can be a great way to attract more investors, reduce volatility, and increase analyst coverage. A great example is Citigroup Bank. In 2011, the company underwent a 1-for-10 reverse split to boost its share price and recover after the 2008 economic crisis. The original price per share was around $4, and after the split, each share was priced at $40. In 2024, the company was doing rather well and its stock has been trading at around $60.
Trading stocks after a reverse split
While the value of the stock doesn’t change after the reverse stock split, it’s generally seen as a negative sign. If a company you’ve invested in is planning a reverse split, it’s better to see the whole picture and not make any rash decisions. Analyze the reasons for the company’s decision, its health and future plans.
