What Is a Stock Split? In Plain Words

What a stock split is

FINRA’s “Stock Splits” page says: “A stock split is a decision by a company’s board to increase the number of outstanding shares in the company by issuing new shares to existing shareholders in a set proportion.”

FINRA puts the reason for the change this way: “When a stock price gets high, sometimes a public company will want to lower that price and can do that with a stock split.”

FINRA also gives one reason a high price can be a problem: “One reason companies split their shares is that a psychological barrier might occur with trading high-priced shares. A very high stock price can intimidate investors who fear there is little room for growth, or what is known as price appreciation.”

In plain words: the company cuts each share into more, smaller pieces. The number of shares goes up, the price of each share goes down, and the company itself is the same size.

The ratios: 2-for-1, 3-for-2, and 3-for-1

FINRA says: “Stock splits come in multiple forms, but the most common are 2-for-1, 3-for-2 or 3-for-1 splits.”

The ratio tells the proportion. In a 2-for-1 split, every 1 share you own becomes 2 shares. In a 3-for-1 split, every 1 share becomes 3 shares. In a 3-for-2 split, every 2 shares become 3 shares.

FINRA’s own worked example

This example is FINRA’s own, printed on its “Stock Splits” page: “For example, let’s say you owned 10 shares of a stock trading at $100. In a 2-for-1 split, the company would give you two shares with a market-adjusted worth of $50 for every one share you own, leaving you with 20 shares.”

FINRA gives the 3-for-2 version too: “Or, in a 3-for-2 split, the company would give you three shares with a market-adjusted worth of about $66.67 in exchange for two existing $100 shares, leaving you with 15 shares.”

Count it both ways:

• Before the split: 10 shares × $100 each = $1,000.
• After a 2-for-1 split: 20 shares × $50 each = $1,000.
• After a 3-for-2 split: 15 shares × about $66.67 each = about $1,000.

Your total value does not change in the split itself

FINRA says it plainly: “While you now have more shares than you started with, the total value of those shares is the same as it was before the split: $1,000.”

The same is true for the whole company. FINRA says: “And while the company’s shares outstanding increase with the split, its market capitalization—the total value of the company derived from multiplying the number of shares by the stock price—remains the same, too.”

FINRA’s closing line on its page is: “Remember that a stock split—or a reverse stock split—does nothing to change the value of a company. How a stock performs in the long run will depend on multiple factors, not on how its shares are split.”

Reverse splits: the opposite move

FINRA describes the opposite case this way: “Meanwhile, a company with a very low-stock price might engage in the opposite behavior: a reverse stock split, to increase its per-share price.”

Investor.gov, the SEC’s investor site, defines it in its glossary entry “Reverse Stock Splits”: “When a company completes a reverse stock split, each outstanding share of the company is converted into a fraction of a share. For example, if a company declares a one for ten reverse stock split, every ten shares that you own will be converted into a single share. If you owned 10,000 shares of the company before the reverse stock split, you will own a total of 1,000 shares after the reverse stock split.”

FINRA’s own reverse-split example uses a much bigger ratio: “Here’s how a reverse split works: Say a company announces a 200:1 reverse split. Once approved, investors will receive one share for every 200 shares they own. So, if you owned 5,000 shares of stock at a price of 10 cents per share worth a total of $500 before the reverse split, you would own 25 shares at a price of $20 each after the reverse split, maintaining that total value of $500. The amount of money you have invested doesn’t change, just the number of shares you own.”

Both sources describe why a company might do this. Investor.gov says: “A company may declare a reverse stock split in an effort to increase the trading price of its shares – for example, when it believes the trading price is too low to attract investors to purchase shares, or in an attempt to regain compliance with minimum bid price requirements of an exchange on which its shares trade.”

FINRA says: “A reverse stock split tends to occur with small companies that believe their stock price is too low to attract investors. Companies also might do reverse splits to maintain their listing on a stock market that has a minimum per-share price or to appeal to certain institutional investors who might not buy stock priced below a certain amount.”

FINRA also notes where reverse splits are most often seen: “More often than not, a reverse split involves a company that trades in the over-the-counter markets (OTC). Reverse stock splits are less common among seasoned companies that trade on one of the major U.S. stock exchanges.”

FINRA adds a caution in its own words: “If a reverse split is announced and actually occurs, proceed with caution. Reverse splits tend to go hand in hand with low-priced, high-risk stocks. This is especially true with reverse splits that result in a post-split share price that is many times the price of the stock’s current price.” That caution is FINRA’s wording, printed here as FINRA states it.

Cash in lieu: when a small holder is “cashed out”

Investor.gov describes one outcome that can happen in some reverse splits: “In some reverse stock splits, small shareholders are ‘cashed out’ (receiving a proportionate amount of cash in lieu of partial shares) so that they no longer own the company’s shares.”

“Cash in lieu” means cash paid instead of a partial share. In the case Investor.gov describes, the cash replaces the partial share, and that small shareholder no longer owns the company’s shares.

Investor.gov also states: “Investors may lose money as a result of fluctuations in trading prices following reverse stock splits.” That is a statement about price movement after a reverse split, not a prediction about any one stock.

Who governs a split, and where it is announced

Investor.gov explains the governing rules this way: “Although the SEC has authority over a broad range of corporate activity, state corporate law and a company’s articles of incorporation and by-laws generally govern the company’s ability to declare a reverse stock split and whether shareholder approval is required.”

FINRA quotes the same SEC point on its page: “state corporate law and a company’s articles of incorporation and by-laws generally govern the company’s ability to declare a reverse stock split and whether shareholder approval is required.”

For companies that must file reports with the SEC, Investor.gov says: “If a company is required to file reports with the SEC, it may notify its shareholders of a reverse stock split on Forms 8-K, 10-Q or 10-K. Depending on the particular facts, companies pursuing a reverse stock split may also be required to file a proxy statement on Schedule 14A, if shareholder approval is required, or a Schedule 13E-3, if the reverse stock split will result in the company ‘going private.’ Corporate filings can be found on EDGAR.”

FINRA states its own role for reverse splits this way: “FINRA does not approve reverse splits, but it does process reverse stock splits as part of its functions related to company corporate actions in the OTC market. OTC companies must submit notice to FINRA 10 days prior to the record/effective date of the corporate action.”

What this page does not cover

This page covers only what the two sources below say about stock splits in general: what a split is, the common ratios, what happens to the share count and the per-share price, that the total value stays the same, reverse splits, and cash in lieu of partial shares in some reverse splits. It does not cover any one company’s split, taxes, dividends, or what any stock will do next. Those topics need their own official sources, read on their own.