A stock split is a corporate action in which a company increases the number of its outstanding shares by issuing more shares to current shareholders. In other words, a stock split is when a company lowers the price of its stock by splitting each existing share into more than one share.
Consequently, the new price of the shares is lower so that the value of the shareholders' stock doesn't change and neither does the company's market capitalization.
That is basically what Apple and Tesla decided to do on August 31. Apple split its stock 4-for-1, which means investors who originally owned one share of the stock now own four of them. Before the stock split, one share of Apple cost $499.23 (at closing on Friday, Aug. 28, 2020). After the split, shares were about $127 each. But it is not the first time that the company splits its stock. Apple's stock has split four times since the firm went public in 1980. The stock split on a 7-for-1 basis on June 9, 2014 and split on a 2-for-1 basis on February 28, 2005, June 21, 2000, and June 16, 1987.
In a similar way, Tesla opted for a 5-for-1 stock split. Prior to the split, a share of Tesla cost about $2,213 per share (at closing on Friday, Aug. 28, 2020). After the split, shares were about $442 each.
These actions are quite surprising in a time when stock splits have fallen into neglect over the last years, compared to the 1990s when they were a common practice among the S&P 500.
As shown on this graph from S&P Global, as the nominal price of stocks in S&P 500 kept skyrocketing between the end of the 1990s and 2020, splits became rarer.
But 2020 was quite particular for Apple and Tesla, especially regarding their market capitalization. Indeed, both companies saw their stock price skyrocket over the last months while the covid-19 crisis drove the stock market down lately. Since the beginning of the year, Apple has seen its stock jump by more than 50%, allowing it to cross, on August 19, the $2,000 billion market capitalization threshold. It is even more impressive for the Californian leader of the electric car industry, the share price of which has more than increased fivefold this year.
These sudden surges in Apple and Tesla’s stock prices mostly explains why the two firms took the decision of increasing the number of their outstanding shares. A higher stock price is a good financial indicator, yet it can prevent some investors who cannot afford it to invest in the company.
The main aim of a stock split is to attract small investors by making a share of the company more affordable. Indeed, it keeps the stock price low in order to enable retail investors to buy a small number of shares. Apple and Tesla are also said to want to attract more millennials to ensure their prosperity in the longer term.
So the effects of a stock split are mainly psychological, and it is for now too soon to tell whether the ones of Apple and Amazon will act on the market sentiment and change the attractiveness the two companies.
As said in an article in the Financial Times, « Apple’s shares have climbed 32 per cent since it announced surprisingly strong quarterly earnings last month, along with its plans for the split and Tesla has jumped 57 per cent since news of its stock move on August 11 » but here again « it is impossible to tell whether the splits have contributed to the share price spikes ».
Many people tend to think that things will remain all the more unchanged for Apple and Tesla since stock splits were originally conducted in order to reduce traders commissions and argue that the psychological effects on retail investors were not the main reason of such a corporate action.
But nowadays with free-commission trading platforms stock splits do not seem as meaningful as they were back in the 90s.
To put it in a nutshell, the consequences of these rather unexpected stock splits remain uncertain, for the two firms but also on the overall stock market, as the economic and financial context has profoundly changed in almost thirty years. However, they must be followed closely as Apple and Tesla, due to their current status, can drive investors as well as corporate decisions, by nudging other huge companies into doing the same thing.
Who knows, other giants like Amazon or Facebook might follow… but a return to the heyday of stock splits appears quite unlikely.
Author: Ethan Stofize
Contact: ethan.stofize@hec.edu
Date: 05-Sept-2020