What is reverse stock split – How it affects an investor

In our last article we have discussed about stock split. Today, in this article we will be discussing what is reverse stock or share split and its impact on investors.

In reverse share split, numbers of shares outstanding are reduced to a lower number and the share price is proportionately increased to compensate the shareholders. Reverse share split does not add any real value to the company and investors. Its also known as consolidation or share rollback.

what is reverse stock split

Possible reason for reverse stock split

Company can take a decision to execute reverse share split for following reason.

First, Different stock exchanges have different rules and regulation. If a particular share is traded in stock exchange below a particular limit for a long time then there are chances that the particular stock gets de-listed.  To avoid such delisting, board of directors decide to go for reverse stock split.

Second, it can also be decided by the management in case share value is too low and for this reason investors are not interested in investing by considering it to be of lower quality.

For instance, if you own 100 shares of XYZ Company at Rs.50 per share on a particular date. Due to some economic turmoil, company share price has been reduced to Rs. 0.5 per share.

To avoid liquidity problem and delisting, management has decided to go for reverse stock split of 10 : 1 i.e. one for 10 shares. This decision of reverse stock split will give you 10 shares of XYZ Company @ Rs.5 each.

Reverse stock split will neither increase nor decrease the net financial impact in the hands of investors.

Pre Split Reverse Stock Split
Ratio 1 for 10
Number of shares 10000 1000
Market price 0.5 5
Value of shares 5000 5000
Ratio 1 for 20
Number of shares 10000 500
Market price 0.5 10
Value of shares 5000 5000

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