Investopedia: What is a 'Reverse Stock Split'?

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Reverse Stock Split

What is a '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.
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BREAKING DOWN '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.
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Stock Split
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A corporate action in which a company divides its existing shares into multiple shares. Although the number of shares outstanding increases by a specific multiple, the total dollar value of the shares remains the same compared to pre-split amounts, because the split did not add any real value. The most common split ratios are 2-for-1 or 3-for-1, which means that the stockholder will have two or three shares for every share held earlier.
Also known as a "forward stock split."

In the U.K., a stock split is referred to as a "scrip issue," "bonus issue," "capitalization issue" or "free issue."
BREAKING DOWN 'Stock Split'

For example, assume that XYZ Corp. has 20 million shares outstanding and the shares are trading at $100, which would give it a $2 billion market capitalization. The company’s board of directors decides to split the stock 2-for-1. Right after the split takes effect, the number of shares outstanding would double to 40 million, while the share price would be $50, leaving the market cap unchanged at $2 billion.
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